[Answered] Critically examine the evolving criteria used by successive Finance Commissions for horizontal distribution of resources among states, highlighting its impact on southern states of India.

Introduction: Give a brief description of the Finance Commission

Body: Explain the evolution of criteria used by FC & impact on southern states in India

Conclusion: Way forward

The Finance Commission is a constitutional body established under Art 280 of the Indian constitution. The Finance Commission of India plays a vital role in ensuring equitable distribution of central tax resources among states. The criteria used for horizontal distribution (allocation among states) have evolved significantly, impacting southern states in both positive and negative ways.

Evolution of Criteria

  • Early Commissions (Pre-1990s): These heavily relied on population (90% weightage) with minimal adjustments. This favored states with larger populations, often in the north and east, while southern states with better population control received a lower share.
  • Shift towards Equity (Post-1990s): Recognizing the limitations of pure population-based allocation, weightage to factors like income distance, disparity, and fiscal needs were introduced. This aimed to bridge the gap between richer and poorer states, potentially benefiting some southern states with lower per capita income.
  • Recent Trends: Commissions continue to refine the criteria. The 15th Finance Commission (2021-26) included demographic performance (rewarding population control) and weightage to forest cover (potentially benefiting some southern states). However, the overall share of central taxes devolved to states has stagnated.

Impact on Southern states in India

  • Early Disadvantage: Southern states with better population control initially received a smaller share of resources due to the dominance of population criteria. Reports of 12 FC & 15 FC show that in the case of the southern States, there has been a steady fall in their share, from 19.785% to 15.800%.
  • Partial Correction: The shift towards income distance and fiscal needs has offered some southern states a larger share of central tax devolution.
  • Remaining Concerns: The weightage for income distance and other factors like forest cover might not fully compensate for the historical disadvantage. Additionally, the recent stagnation in the overall devolution of central taxes limits the potential benefits. The main reason for the loss of the southern States is the income distance criterion as the loss to the southern States due to the distance criterion amounted to 8.055% points, although the overall loss was much less at 3.985% points.

Conclusion

The Sixteenth Finance Commission can consider reducing income distance weight currently 45% while correspondingly raising the weights attached to other criteria. The Finance Commission can reduce the weight of this criterion by 5% to 10% points. Also, cesses and surcharges may be subjected to some upper limit by the Sixteenth Finance Commission. Finally, the Commission should play its role of “balancing the wheel of fiscal federalism” to address the concerns of the states.

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