Examine the evolving pattern of Centre-State financial relations in the context of planned development in India. How far have the recent reforms impacted the fiscal federalism in India?

The constitutional architecture of India envisions a delicate balance in fiscal federalism, characterized by the centralization of major revenue-raising powers (to ensure macroeconomic stability) and the decentralization of expenditure responsibilities (for localized welfare). Historically, this framework was heavily influenced by the imperatives of centralized planned development, but it has undergone a paradigm shift in recent years towards cooperative and competitive federalism.

Evolving Pattern of Centre-State Financial Relations in Planned Development

The evolution can be analyzed through two distinct phases:

1. The Planning Commission Era (1950 – 2014): The Centralized Approach

• Dominance of Discretionary Grants: Under centralized planning, the Planning Commission (an executive body) overshadowed the Finance Commission (a constitutional body under Article 280). Discretionary grants under Article 282 (Plan expenditure) often exceeded statutory grants under Article 275 (Non-Plan expenditure).
• "One-Size-Fits-All" Approach: Centrally Sponsored Schemes (CSS) proliferated with rigid guidelines, leaving states with little fiscal space to tailor developmental programs to localized needs.
• Plan vs. Non-Plan Dichotomy: The artificial distinction between plan (developmental) and non-plan (maintenance) expenditure skewed state budgets, often leading to the neglect of asset maintenance.
• The Gadgil-Mukherjee Formula: While it provided a framework for central plan assistance, it was often criticized by high-performing states for not adequately rewarding fiscal prudence and demographic management.

2. The Post-Planning Era (2015 – Present): Shift towards Decentralization

• Abolition of the Planning Commission: The transition to NITI Aayog marked an end to top-down central planning. The power of allocating central funds was shifted to the Finance Ministry, restoring the primacy of the Finance Commission.
• End of Plan/Non-Plan Classification: The merger of plan and non-plan expenditures in 2017 provided a holistic view of government spending, focusing on revenue and capital expenditures.
• Rationalization of Schemes: The restructuring of CSS into Core of the Core, Core, and Optional schemes aimed to reduce the financial burden on states and provide higher "flexi-funds" (up to 25%) to adapt schemes to local requirements.

Impact of Recent Reforms on Fiscal Federalism

Recent structural reforms have fundamentally reshaped the fiscal contours of India. Their impact can be evaluated on two fronts:

A. Strengthening Fiscal Federalism (Positive Impacts)

• Enhanced Devolution of Taxes: The acceptance of the 14th Finance Commission’s recommendation to increase the states' share in the divisible pool from 32% to 42% (adjusted to 41% by the 15th FC due to the creation of J&K UT) marked a historic shift from tied funds to untied resources, granting states greater fiscal autonomy.
• Goods and Services Tax (GST) and Cooperative Federalism: The implementation of GST (101st Amendment) integrated the national market. The creation of the GST Council, where the Centre and States pool their sovereignty to make joint tax decisions, stands as the paramount institutional innovation in cooperative federalism.
• Incentivizing Capital Expenditure: The Centre's 'Scheme for Special Assistance to States for Capital Investment' (providing 50-year interest-free loans) has successfully nudged states towards long-term infrastructure creation.
• Performance-based Grants: The 15th FC introduced sector-specific and performance-based grants (e.g., for power sector reforms, local body efficiency, and agricultural exports), fostering competitive federalism.

B. Emerging Frictions and Centralizing Tendencies (Concerns)

Despite structural decentralization, states have raised concerns regarding a "creeping centralization" in fiscal management:

• Proliferation of Cesses and Surcharges: Articles 270 and 271 exclude cesses and surcharges from the divisible pool. Their share in Gross Tax Revenue has surged from around 10% in 2011-12 to nearly 20% recently, effectively shrinking the actual divisible pool available to states to around 31-32%.
• Conditionalities on Borrowing: Under Article 293(3), states require the Centre's permission to borrow if they have outstanding central loans. The Centre has increasingly used this to enforce conditions, such as linking an additional 0.5% Net Borrowing Ceiling (NBC) to power sector reforms, which states view as an infringement on their fiscal sovereignty.
• Financial Burden of CSS: Despite the rationalization of CSS, the changing funding pattern (e.g., shifting from 75:25 to 60:40) has forced states to commit larger portions of their untied revenues to match central grants, limiting their fiscal space for state-specific schemes.
• GST Compensation Cess Expiry: The cessation of the guaranteed 14% revenue growth compensation under the GST regime in 2022 has left several states facing structural revenue shortfalls, exacerbating vertical fiscal imbalance.
• Demographic Penalty Concerns: Southern states have expressed apprehension over the 15th FC using the 2011 census for population weightage, arguing it penalizes states that successfully stabilized their populations, although the FC mitigated this by introducing a "Demographic Performance" criterion.

Way Forward

To ensure that India’s planned developmental trajectory remains aligned with the principles of federalism, the following measures are needed:

1. Capping Cesses and Surcharges: A constitutional amendment or statutory limit should be introduced to cap the proportion of cesses and surcharges in the gross tax revenue (e.g., at 10%), ensuring the divisible pool is not artificially depleted.
2. Strengthening the Inter-State Council (ISC): Under Article 263, the ISC should be institutionalized as a permanent forum for macroeconomic and fiscal coordination, complementing the GST Council.
3. Review of Centrally Sponsored Schemes: A zero-based budgeting approach should be applied to CSS. Funding should progressively shift towards block grants, empowering states to design localized welfare interventions.
4. Independent Debt Management: The establishment of an independent Public Debt Management Agency (PDMA) can ensure equitable and transparent borrowing mechanisms for both the Centre and the States.

The trajectory of Centre-State financial relations has matured from a patron-client relationship under centralized planning to an era of pooled sovereignty. While recent reforms have substantially expanded the architecture for cooperative federalism, addressing the emerging vertical and horizontal fiscal imbalances is imperative to realize the vision of ‘Strong States make a Strong Nation’.