FISCAL DISCIPLINE HOLDS THE KEY

With the economy on a firm footing, it's time to wind up stimulus measures and return to fiscal consolidation... accepting the Finance Commission proposals could be the perfect start

 STATE GOVERNMENTS HAVE GOT a bonanza from the 13th Finance Commission: their share of central taxes will go up to 32% from 30.5%, and local governments will get an additional 2-2.5%. So, the states and local governments should get around Rs 71,000 crore more of the divisible pool of central taxes next year. The central government has accepted all major recommendations of the Finance Commission. Taking shared taxes and central grants together, devolution to the states will go up to 39% from the current 37.6% of the central divisible revenue. Grants-in-aid to the states over the next five years are projected at Rs 318,581 crore. This includes Rs 50,000 crore to compensate the states for any revenue shortfall from the shift to a Goods and Services Tax (GST). They will get the unspent balance, if there is little or no shortfall. However, they will get this Rs 50,000 crore only if they abide by the model GST of the Finance Commission. That conditionality will ruffle the feathers of sensitive states. 

    The model GST specifies a single tax rate for all goods and services, something many states have opposed. The Finance Commission believes that it may be feasible to levy GST at a single rate of 7% for the states and 5% for the Centre, but this is not a binding recommendation. Several states want much higher rates, and also several exemptions that the Finance Commission frowns upon. 
    Local bodies will get a basic rate of 1.5% of central taxes. In 2010-11, they will get an additional performance grant (dependent on performance) of 0.5% of the divisible pool of the preceding year, and this will rise to 1% in the followingyears. This is a landmark shift in federal relations: local governments are getting a guaranteed share of central revenue for the first time. However, the proposed devolution will average barely Rs 16,500 crore per year for five years, which is peanuts for a country of India's size. 
    To ensure that local bodies also collect taxes and don't depend just on grants, state governments may deduct "deemed local tax collection" from their own transfers to local governments. Alternatively, they can give matching grants depending on the tax effort of local governments. 
    Central and state GST will be levied on imports. If the state rate is 7% and the central rate is 5%, then goods entering the Mumbai port will pay 7% to Maharashtra, with the central levy of 5% being shared with all states, according to the Finance Commission's formula. 
The sharing formula has been altered slightly by the 13th Finance Commission. The share of poorer states will go up. Grants-in-aid over the next five years include Rs 26,373 crore for disaster relief; Rs 51,800 as a non-Plan grant for eight states with serious revenue deficits; an additional Rs 24,068 crore for education; additional Rs 19,930 crore for maintaining roads and bridges; additional Rs 15,000 crore for environmental protection; and Rs 14,446 crore for improved performance in areas like infant mortality and supply of justice. 
    The Finance Commission has offered carrots and sticks to improve state performance. Many performance grants are available for improved policies and outcomes. Some grants (for GST adoption, road maintenance) are conditional on states following the Commission's norms. Commission wants Centre to cut debt to 45% 
THE Finance Commission has made a series of suggestions for reducing the fiscal deficits of the Centre and states, but these are not mandatory. It wants the Centre to reduce its total debt to 45% of GDP, and the states to reduce theirs to below 25% of GDP. 
    The target is 68% of GDP for the Centre and state together. This would represent a sharp reduction: the Centre's debt in 2009-10 was 56.7% of GDP.