Opinion Express View on protests by Karnataka and Kerala: Grand bargain 2.0

One state’s chief minister hit the national capital’s streets, along with his cabinet colleagues, against the Centre’s alleged discrimination in devolution of tax revenues and non-release of drought relief funds. Another state’s CM followed suit, having already moved the Supreme Court against the Centre imposing limits on its borrowing powers. The fact that both of them, Karnataka and Kerala, are Opposition-ruled and the timing of the protests, ahead of Lok Sabha elections, may make these seem purely political in nature. Nor have these states’ own fiscally irresponsible actions helped. The ruling Congress in Karnataka should have thought twice before announcing its five assembly poll “guarantee” schemes, which are costing the state exchequer an additional Rs 52,000 crore per year. The Kerala government has, likewise, sought to circumvent its normal net borrowing ceiling, of 3 per cent of GDP fixed by the Centre, by resorting to off-budget loans raised by two state-owned entities.

The political motivations notwithstanding, there are genuine concerns with regard to both the letter and spirit of fiscal federalism that need addressing. To start with, the Centre accounts for more than 60 per cent of the gross tax revenues collected together with the states. On the other hand, the states have well over a 60 per cent share when it comes to total government spending. The disparity between revenue generation capacities and expenditure responsibilities imparts an inherent vertical fiscal imbalance. That imbalance would only have widened with the implementation of the goods and services tax (GST), which has replaced the value added tax and a host of other levies that were major sources of revenue for the states earlier. But the states accepted the apparent loss of fiscal sovereignty through a grand bargain that was a result of consensus building and addressing apprehensions of revenue loss, if any, from the new nationwide non-cascading indirect tax regime. The high point was the setting up of the GST Council, comprising the finance ministers of the Centre and all states, to decide on tax rates, exemptions and any regulatory changes.

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A similar compact is required today in matters of tax devolution and other resource transfers, both vertical (Centre to states) and horizontal (among states). Karnataka, for instance, is justified in asking why its share in the divisible tax pool was reduced from 4.713 to 3.647 per cent between the 14th and 15th Finance Commission awards. The next commission should frame clear and transparent rules for distribution of the Centre’s tax proceeds and grants-in aid. As part of a Grand Bargain 2.0, the Centre must desist from levying non-sharable cesses and surcharges on taxes, just as states should be made to strictly adhere to deficit targets and borrowing limits.