CENTRE – STATE FINANCE RELATIONS – POLITY

CENTRE – STATE FINANCE RELATIONS – POLITY

NEWS: In the last decade (FY16-FY25), 23-30% of States' total revenue came from Central transfers, compared to 20-24% during the 2000s and the first half of the 2010s.

 

WHAT’S IN THE NEWS?

    • A marked increase in reliance on grants from the Centre, which now account for 65-70% of States' non-tax revenue, compared to 55-65% in earlier decades.

Underlying Causes:

    • States have been unable to significantly increase their own tax revenue collection.
    • Non-tax revenue, excluding Central grants, has diminished over time.
    • Increased expenditure responsibilities without a corresponding increase in own revenue sources.

Decline in States' Own Tax Revenue

  1. Share in Total Revenue:
    • Own tax revenue has consistently remained below the 50% mark for over a decade.
    • In contrast, during the 2000s and early 2010s, the share of own tax revenue often crossed or remained close to 50%.
  2. Key Components of Own Tax Revenue:
    • Includes revenues from stamp duty, registration fees, motor vehicle tax, and State GST (SGST).
    • SGST has emerged as a significant contributor:
      • SGST accounted for 15% of total revenue in FY18.
      • Its share increased to 22% of total revenue in FY25.
  3. Decline in Non-SGST Components:
    • The share of own tax revenue excluding SGST has fallen from 34% to 28% over the last decade.
    • This reflects an over-reliance on SGST, which is governed by rates set by the GST Council.
    • Disputes between the Centre and States over SGST rates have intensified, with Finance Ministers from States like Tamil Nadu, Kerala, and West Bengal expressing concerns over the Council’s decisions.

Declining Non-Tax Revenue

  1. Shrinking Share in Total Revenue:
    • Non-tax revenue is expected to drop below 24% of total revenue in FY25—the lowest in 25 years.
    • This revenue category includes:

Grants from the Centre. Earnings from social, fiscal, economic, and general services rendered by States.

Interest receipts. Dividends and profits from State Public Sector Enterprises (SPSEs).

  1. Grants from the Centre:
    • Share increased significantly from 55-60% in the 2000s to 65-70% in the last decade.
    • Dependence on Central grants has been rising as other sources of non-tax revenue diminish.
  2. Declining Earnings from Other Sources:
    • Interest receipts: Formed 5-9% of non-tax revenue in the 2000s but have dropped to less than 5% in the last decade.
    • Dividends and profits: Consistently below 1% of non-tax revenue.
    • Earnings from services (e.g., public health, power):
      • Did not cross the 30% mark in the last decade.
      • Frequently exceeded this threshold in the 2000s and early 2010s.

Ratio of Own Tax Revenue to GSDP

  1. Declining Trends in Key States:
    • The ratio of own tax revenue to GSDP has shown a marked decline in several States, including:
      • Tamil Nadu: Dropped from 7.72% (FY13-15) to 6.17% (FY22-24).
      • Similar declines in Karnataka, Kerala, Bihar, Delhi, and Madhya Pradesh.
  2. States with Rising or Stable Ratios:
    • Maharashtra, Manipur, Meghalaya, Odisha, and Uttarakhand have seen improvements.
    • Ratios have remained stagnant in other States.
  3. Key Observations:
    • Despite measures to improve tax collection (e.g., from stamp duty, registration fees, and motor vehicle taxes), these efforts have been sporadic and insufficient.
    • Technical inefficiencies in tax systems continue to limit revenue mobilisation.

Key Challenges in Revenue Mobilisation

  1. Inefficiency in Tax Collection:
    • Limited efforts to efficiently collect taxes using existing avenues such as stamp duty and motor vehicle taxes.
    • These taxes lack a high degree of technical efficiency, as pointed out by multiple studies.
  2. Over-Reliance on SGST:
    • SGST, which accounts for an increasing share of States' total revenue, is governed by GST Council decisions, reducing States' autonomy.
    • This creates uncertainty, as disputes over SGST rates are frequent.
  3. Diminishing Non-Tax Revenue Sources:
    • Dependence on Central grants has increased as other non-tax revenue sources, such as interest receipts and dividends, have stagnated or declined.
  4. Expenditure vs. Revenue Mismatch:
    • States face spiraling expenditure responsibilities, particularly in areas like health, education, and infrastructure.
    • However, stagnant or declining own tax revenue hampers their ability to implement expansionary fiscal policies to boost aggregate demand.

Implications of Rising Dependence on Central Transfers

  1. Reduced Fiscal Autonomy:
    • Increasing dependence on Central transfers undermines States' ability to independently manage their finances.
    • This dependence makes States more vulnerable to changes in Central policies.
  2. Limited Scope for Fiscal Measures:
    • Stagnant own tax revenue constrains States' ability to adopt counter-cyclical fiscal policies, which are essential for stabilising the economy during downturns.
  3. Redistributive Inefficiency:
    • Weak revenue mobilisation efforts at the State level undermine the redistributive potential of tax policies.
    • This affects resource allocation to critical areas like welfare and infrastructure.
  4. Growing Inter-State Disparities:
    • States with stronger tax collection systems (e.g., Maharashtra, Odisha) show better revenue performance, while others lag, exacerbating regional disparities.