The severe erosion of Fiscal Federalism in India

The severe erosion of Fiscal Federalism in India

News: Recently, The Kerala government has accused the Centre of pushing the State into a severe financial crisis by imposing a limit on its borrowings.

Background:
• Kerala’s protest against the Indian Central Government’s Net Borrowing Ceiling (NBC), which limits the state’s borrowing capacity.

What is Net Borrowing Ceiling limit?
• The Net Borrowing Ceiling (NBC) restricts state borrowings from various sources, such as the open market. To determine this ceiling, the Central Government subtracts state liabilities, including those from public accounts.

Central government’s argument:
• The central govt relies on Article 293(3) of the Constitution, requiring state consent for loans with outstanding central loans.
• It justifies NBC to ensure fiscal discipline and transparency, as recommended by the 15th Finance Commission Report.
• It includes state enterprise debts in NBC to prevent off-budget transactions and hidden liabilities.

Kerala government’s views:
• The state government contends that including state enterprise debts, like those of KIIFB, in NBC is constitutionally suspect. It says that the 15th Finance Commission Report does not specifically recommend including state enterprise debts in NBC.
• The government refers to Article 202 of the Constitution and Entry 43 of the State List, asserting state control over its public debt and financial affairs, therby challenging the central imposition of NBC.

Other concerns in context of Fiscal Federalism:
• Increasing dependency on Centre: The reliance of states on central government revenue has grown, witnessing a decrease in the share of revenue from independent sources from 55% in 2014-15 to 50.5% in 2020-21.
• The introduction of the GST has further compounded this situation, as most indirect taxes, except for a few like petroleum products, property tax, and alcohol excise, have been absorbed into the GST framework. This has diminished the states’ capacity to generate their own revenue.
• After the introduction of GST, the states no longer possess the authority to independently determine tax rates for subjects listed under the State List. The current situation, where states cannot adjust tax rates according to their developmental needs, results in increased reliance on central government funds.
• Cess and surcharges: Another emerging challenge is that cesses and surcharges are becoming a disproportionate proportion of the overall divisible revenue, with non-tax revenues being kept outside the divisible pool.

Conclusion
• Kerala’s Supreme Court challenge against NBC underscores constitutional tensions regarding fiscal authority between the Centre and states
• In recent years the frequency and intensity of such disputes have increased and these issues needed urgent consideration to reinforce trust in fiscal federalism.
• There is a need for augmenting the resources both of the Centre and the States. It requires faster growth of the economy and restructuring the expenditure of the Centre and the States.