Recommendations of the 15th Finance Commission

The report of the Fifteenth Finance Commission, along with an Action Taken Report, was recently tabled in Parliament.

How revenue has been divided?

FC has considered the 2011 population along with forest cover, tax effort, area of the state, and “demographic performance” to arrive at the states’ share in the divisible pool of taxes.

In order to reward population control efforts by states, the Commission developed a criterion for demographic effort — which is essentially the ratio of the state’s population in 1971 to its fertility rate in 2011 — with a weight of 12.5%.

The total area of states, area under forest cover, and “income distance” were also used by the FC to arrive at the tax-sharing formula.

The Commission has reduced the vertical devolution — the share of tax revenues that the Centre shares with the states — from 42% to 41%.

The Commission has said that it intends to set up an expert group to initiate a non-lapsable fund for defence expenditure.

State- wise distribution:

Shares of the southern states, except Tamil Nadu, have fallen — with Karnataka losing the most.

Shares of states like Maharashtra, Himachal Pradesh and Punjab, along with Tamil Nadu, all of which have fertility rates below the replacement level, have increased slightly.

On the other hand, Andhra Pradesh, Kerala, Karnataka, and West Bengal’s shares have fallen, even though their fertility rates are also low.

Incidentally, Karnataka, the biggest loser in this exercise, also had the highest tax-GSDP ratio in 2017-18, as per an RBI report on state finances.

Criticisms:

The population parameter used by the Commission has been criticised by the governments of the southern states.

The previous FC used both the 1971 and the 2011 populations to calculate the states’ shares, giving greater weight to the 1971 population (17.5%) as compared to the 2011 population (10%).

The use of 2011 population figures has resulted in states with larger populations like UP and Bihar getting larger shares, while smaller states with lower fertility rates have lost out.

The combined population of the Bihar, Uttar Pradesh, Madhya Pradesh, Rajasthan and Jharkhand is 47.8 crore.

This is over 39.48% of India’s total population, and is spread over 32.4% of the country’s area, as per the 2011 Census.

On the other hand, the southern states of Tamil Nadu, Kerala, Karnataka and undivided Andhra Pradesh are home to only 20.75% of the population living in 19.34% of the area, with a 13.89% share of the taxes.

This means that the terms decided by the Commission are loaded against the more progressive (and prosperous) southern states.