Hindu Editorial Analysis : 1-March-2024

Recent protests from the governments of Kerala and Karnataka, along with backing from other states, have brought attention to significant problems in how fiscal federalism works in India. This essay explores the structure of fiscal federalism in India, its intended purpose, and the issues currently affecting its effectiveness.

What is Fiscal Federalism?

Fiscal federalism refers to the financial relations between different levels of government in a country. In India, this system was designed by the founding fathers of the Constitution, ensuring that:

  • The Central government shares its tax revenues with the states.
  • Grants are provided from the Consolidated Fund based on recommendations from the Finance Commission, which is revisited every five years.

The Three-Tier Tax System

India has a structured tax system that divides responsibilities among three levels of government:

  1. Central Government:
    • Collects taxes on individual and business incomes.
    • Gathers indirect taxes like the Central Goods and Services Tax (CGST) and customs duties.
    • Implements surcharges and cesses.
  2. State Governments:
    • Collects State GST, stamp duty, land revenue, state excise, and professional tax.
  3. Local Bodies:
    • Responsible for property/house tax, tolls, and utility taxes (electricity, water).

Current Issues in Fiscal Federalism

Despite the framework, several complaints have arisen regarding how resources are shared:

  • Increasing Inequalities: There is a growing concern about both vertical (between different levels of government) and horizontal (among states) inequalities in resource distribution.
  • Central Government’s Retention of Funds: The Union government has been keeping a larger share of its tax proceeds out of the divisible pool, which should be shared with states.
  • Non-Devolution of Funds: Successive Finance Commissions have recommended the devolution of funds to states, but this has not been consistently implemented.
  • Introduction of Cesses and Surcharges: New taxes like the Agriculture Infrastructure and Development Cess have been introduced, which further complicates the financial landscape for states.

Why In News

The recent agitations by the governments of Kerala and Karnataka, along with the backing from several other state governments, have underscored numerous troubling issues in the practice of fiscal federalism in India, revealing deep-seated concerns about resource allocation and governance that could impact the country’s federal structure.

MCQs about Fiscal Federalism in India

  1. What is the primary focus of fiscal federalism in India?
    A. The relationship between international governments
    B. The financial relations among different levels of government within the country
    C. The economic policies of private corporations
    D. The taxation policies of neighboring countries
    Correct Answer: B. The financial relations among different levels of government within the country
    Explanation: Fiscal federalism primarily deals with how financial resources are allocated and shared among the central, state, and local governments in India.
  2. Which of the following is a responsibility of the central government in India?
    A. Collecting property tax
    B. Collecting state GST
    C. Collecting income tax and customs duties
    D. Collecting tolls
    Correct Answer: C. Collecting income tax and customs duties
    Explanation: The central government has the authority to collect taxes on individual and business incomes as well as customs duties, while state governments and local bodies handle other taxes.
  3. What issue is raised concerning the distribution of resources in fiscal federalism?
    A. Increased cooperation among states
    B. Equitable distribution of wealth
    C. Vertical and horizontal inequalities in devolution
    D. Overfunding of local bodies
    Correct Answer: C. Vertical and horizontal inequalities in devolution
    Explanation: The essay discusses concerns about growing inequalities in resource sharing between the central government and the states (vertical) as well as among the states themselves (horizontal).
  4. What has the Union government been accused of regarding its tax proceeds?
    A. Sharing a larger portion with states
    B. Increasing its own share of the divisible pool
    C. Completely eliminating cesses and surcharges
    D. Providing additional grants to local bodies
    Correct Answer: B. Increasing its own share of the divisible pool
    Explanation: The essay states that the Union government has sought to retain a larger share of its tax proceeds out of the divisible pool, thereby not sharing as much with the states as it should.

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