8. 16th FINANCE COMMISSION: Horizontal Devolution and Southern States

The 16th Finance Commission (FC) report has sparked a debate on fiscal federalism, specifically regarding the marginal increase in Tamil Nadu\'s share of the divisible pool compared to other southern states. While the collective share of southern states rose, the internal distribution highlights the varying impact of revised criteria on advanced economies. • Marginal Gains for Tamil Nadu: Tamil Nadu\'s share increased from 4.079% (15th FC) to 4.097% (16th FC), a mere 0.44% rise. This is significantly lower than Kerala (23.74%) and Karnataka (13.27%), leading to concerns over \'fiscal penalization\' of high-performing states.• Shift in Criteria Weights: The Commission increased the weight of Population from 15% to 17.5%, which traditionally disadvantages southern states with better demographic control. Conversely, the removal of the Tax and Fiscal Efforts criterion has hit states like Tamil Nadu that demonstrate high tax efficiency. • GDP Contribution as a New Metric: For the first time, Contribution to GDP was included as a criterion. Experts suggest that without this inclusion, Tamil Nadu’s share would have likely decreased, as it partially compensates for the reduced weights assigned to Per-capita GSDP and Area. • Vertical Devolution Rebalancing: The rise in the southern states\' collective share was largely facilitated by a reduction in the combined share of northern and eastern states (UP, MP, Bihar, and West Bengal), which dropped from 51.2% to 49.93%. • Subsidy and Efficiency Recognition: The Commission noted that Tamil Nadu has the highest absolute subsidy level (₹78,453 crore), but praised southern states for using IT-enabled data analysis to de-duplicate beneficiary lists and streamline fiscal delivery. • Discontinuation of Revenue Deficit Grants: Despite pleas from Andhra Pradesh, Kerala, and Tamil Nadu, the 16th FC recommended against the continuation of Post-Devolution Revenue Deficit (PDRD) Grants, posing a challenge for states with high committed expenditures. KEY DEFINITIONS FOR FISCAL FEDERALISM • Vertical Devolution: The division of the \'Divisible Pool\' of central taxes between the Union and the States (currently maintained at 41%). • Horizontal Devolution: The formula-based distribution of the states\' share among the 28 states based on criteria like population, area, and income distance. • Divisible Pool: Consists of all taxes and duties referred to in the Constitution, except surcharges and cesses which are not shared with states. • Income Distance: The difference between the per capita income of a state and the state with the highest per capita income; used as a proxy for fiscal capacity. CONSTITUTIONAL AND LEGAL PROVISIONS • Article 280: Mandates the President to constitute a Finance Commission every five years to recommend the distribution of tax proceeds. • Article 275: Provides for Grants-in-aid from the Union to specific states in need of assistance, often recommended by the FC as Revenue Deficit Grants. • Article 282: Allows the Union or a State to make grants for any \'public purpose,\' often used for Centrally Sponsored Schemes (CSS) outside the FC\'s recommendations.• 7th Schedule: Delineates the taxation powers between the Union (List I) and States (List II), creating the \'vertical imbalance\' that the Finance Commission seeks to correct. 

COMPARISON OF DEVOLUTION GROWTH RATES (16th vs 15th FC)

CONCLUSION The 16th Finance Commission’s formula reflects a delicate balancing act between Equity (supporting lagging states) and Efficiency (rewarding growth). For Tamil Nadu, the marginal increase underscores a \'middle-income trap\' in fiscal devolution, where high GSDP and low population growth lead to diminishing returns under traditional horizontal formulas. The removal of \'Tax Effort\' as a criterion marks a significant shift, suggesting that the Commission now prioritizes absolute economic contribution (GDP) over relative fiscal efficiency. UPSC RELEVANCE • GS Paper II: Federal structure and challenges; Role of Constitutional bodies (Finance Commission); Centre-State financial relations. • GS Paper III: Indian Economy and issues relating to planning, mobilization of resources, and growth; Government Budgeting. • Prelims Focus: Criteria for horizontal devolution (Population 2011, Area, Forest Cover, etc.); Articles 280, 275, and 282; 16th FC Chairman and specific mandate.