States to get higher share of taxes, debt relief; 68 per cent combined debt cap proposed.
The Thirteenth Finance Commission, which presented its report today, has told governments at the Centre and states to set their fiscal house in order, even as it raised the share of taxes that the states would be entitled to receive over the next five years by 1.5 percentage points.
In addition, the commission, a Constitutional body that is appointed every five years to recommend a tax-sharing formula between the Centre and states, has suggested a roadmap for the introduction of a single-rate goods and services tax (GST), the key indirect tax reform to create a common market in India.
Its stringent new roadmap for fiscal responsibility suggests, among other things, that the overall debt of the Centre and states be capped at 68 per cent of gross domestic product (GDP) from the current 82 per cent, and 75 per cent recommended by the Twelfth Finance Commission.
Within this, the Thirteenth Finance Commission has recommended that the Centre reduce debt to 45 per cent of GDP by March 2015 against 54.2 per cent at present. For states the reduction in debt is recommended at 2 percentage points to 25 per cent.
But this relatively less stringent condition for states comes with the rider that the Fiscal Responsibility and Budget Management Act allows the Centre to borrow on behalf of the states to help them counter macroeconomic shocks. During the financial crisis, the Centre had relaxed the cap on the fiscal deficit.
The Union government has accepted most of the recommendations of the Thirteenth Finance Commission headed by former Finance Secretary Vijay Kelkar. In the case of GST and the new fiscal responsibility roadmap, the government’s action-taken report said the proposals have been accepted in-principle, meaning detailed plans have to be worked out to meet these targets.
The Finance Commission has said the Centre should transfer 32 per cent of the taxes it collects to states, against 30.5 per cent at present. The overall ceiling — including transfers to local bodies — on transfers from the Centre’s gross revenue has been raised from 38 to 39.5 per cent.
Among proposals that provide a thrust to fiscal federalism, the commission has also recommended that local bodies receive up to 2.5 per cent of the divisible tax pool. Of this, up to 1 per cent can be incentive-linked.
While there is more reason for the states to cheer since the commission proposes an increase in grants, much of it is tied to specific spending programmes such as those for elementary education and environment.
There is, however, a performance incentive of Rs 1,500 crore for Assam, Sikkim and Uttarakhand and a grant of Rs 51,800 crore to meet the deficits of Jammu & Kashmir, Himachal Pradesh and the north-eastern states (excluding Assam).
Like its predecessor, the Thirteenth Finance Commission has recommended a debt relief scheme for the states. The first element is to cap the interest rate on a part of the loans from the National Small Savings Fund at 9 per cent from up to 10.5 per cent. This will translate into a benefit of Rs 28,360 crore to the states.
In addition, there is a Rs 4,506 crore benefit with the government accepting the suggestion to write off central loans that are not administered by the finance ministry but were outstanding at the end of 2009-10.
Including the higher grants-in-aid, Madhya Pradesh, Uttar Pradesh and Maharashtra would be the biggest beneficiaries in terms of share of transfers. Himachal Pradesh, Uttarakhand and Jammu and Kashmir would be the top losers.
For the Centre, the Finance Commission does not expect the higher tax devolution to the states to result in a higher burden as the Centre is expected to prune subsidies and restructure some of the Centrally Sponsored Schemes (CSS).
In addition, the report said the states’ contribution in CSSs should be 50 per cent of the cost, against 40 per cent for schemes such as the Sarva Shiksha Abhiyan.
The Finance Commission has projected that tax receipts would see a compounded annual growth rate of over 17 per cent between March 2010 and March 2015, while nominal GDP growth is estimated at 13.2 per cent.
| WHAT THE REPORT SAYS |
| About devolution |
| # States to get 32% of central taxes, compared to 30.5% now |
| # Up to 2.5% of divisible pool may be transferred as grants to local bodies |
| # Total transfers to states on the revenue account be capped at 39.5% of the Centre’s gross tax revenue, compared to 37.5% |
| About fiscal correction |
| # Centre should target a revenue surplus by 2014-15 |
| # Combined debt of Centre and states should be capped at 68% of GDP by March 2015; currently at 82% |
| # In the case of macroeconomic shocks, Centre to borrow and devolve to states instead of relaxing the state borrowing limits |
| # The medium term fiscal plan should be made a statement of commitment |
| About the Goods and Services Tax |
| # Single rate for goods, services proposed |
| # To make, GST purely consumption based, taxes and cesses should be subsumed |
| # Petrol, diesel, alcohol, tobacco may be charged to GST with additional levies by the Centre and states |
| # Only public services, unprocessed food items, health, education and transactions between employer and employee be exempted |
The fiscal correction plan
As part of the revised roadmap for fiscal consolidation the commission has recommended that the government prepare a calibrated exit strategy from an expansionary fiscal policy.
While allowing the next financial year for adjustment, the finance commission has said fiscal consolidation should start in 2011-12 so that the Centre can reduce the level of fiscal deficit to 3 per cent of GDP by 2013-14 from the 2008-09 figure of 6.8 per cent. By then, the Centre should also have zero revenue deficit so that borrowings are used to meet investment requirements
Prescribing a zero revenue deficit as the golden rule, the commission has recommended that the endeavour for all states should be to reach that level by 2014-15.
