Impact of new Economic Measures on Fiscal ties Between the Union and States in India | HPSC Preparation: All subjects - HPSC (Haryana) PDF Download

Politics

India has a federal form of Government, and thus, we follow a federal financial system. The federal form of Government means that the centre and the states should be independent of each other in their respective constitutionally demarcated area of influence. Once foundational rules of sharing of power between the centre and the states are demarcated, it becomes important upon both types of governments you have been provided with the resources of raising adequate revenue to discharge the functions that have been constitutionally mandated.

Inter-state Trade and the Revenue Received

Let us take the example of the Constitutional amendment in 1956, which gave states the power to impose sales tax under the Central Sales Tax Act, 1956, which was enacted after the sixth constitutional amendment, which introduced Entry 92A in List 1 of the seventh schedule authorising parliament to levy tax on the sale or purchase of goods other than newspapers in the course of inter-state trade and revenue received from such tax was assigned to the states by amending Article 269 of the constitution. Thus, sale within the state (intrastate sale) is within the purview of the powers of the state government, while sale made outside the state (interstate sale) is within the authority of the centre.
India being a federal country, the nature of public finances of India promotes fiscal federalism, which means the division of responsibilities in respect of taxation and public expenditure amongst the various layers of the government, namely the centre, the states, and the local bodies. Moreover, fiscal federalism helps organisations to realise efficiency in administration. From this point of view, we can create a unified common market that enhances economic performance.
The Seventh Schedule of the Indian constitution or Article 246 delineates ‘the subject matter of laws made by the parliament and by the legislature of the states’, and it has the union list (list 1), state list (list 2), and the concurrent list (list 3). These lists contain the power of taxation, where union list includes taxes on income, other than agriculture income, excise duties, customs, and corporation taxes. State list includes land revenue, excise on alcoholic liquor, tax on agricultural income and professions, etc., whereas the Concurrent list does not include any import taxes.

The Economic Liberalization

Economic reforms in India in 1991 were to achieve the objectives of economic growth, price stability, and equitable and inclusive growth. So, to achieve these goals, it becomes an incumbent necessity to ensure the availability of more funds through taxation, curbing the growth of unproductive and non-plan expenditure. In the 1990s, there was a setback when the 5th Pay commission’s recommendation of the sharp increase in wages and salary were accepted thus consequently it led to increasing non-plan expenditure and consequently a rise in the fiscal deficit since early 2000s center has continued to follow prudent fiscal policy consisting of the balanced tax structure of direct and indirect taxes which shall be based on moderate tax rates with minimum exemptions covering a greater class of taxpayers. An expenditure policy that aims to restrain the growth in non-developmental expenditure and adequately enhance funding support for the social and infrastructure needs of a developing economy. Fiscal Responsibility and Budget Management Act 2003 was set up to limit fiscal deficit and promote a revenue-led fiscal consolidation strategy. The 14th Finance Commission has recommended that States’ share in the net proceeds of Union Tax revenues be 42%. The recommendation of tax devolution at 42% is a huge jump from 32 % as the 13th finance commission recommended.

Centre-State Finances

Recently, after the passage of the GST Act and its inclusion in the Constitution brought out a major tax reform that will accelerate and reconfigure the relationship between the centre and the states in terms of fiscal resource sharing, it will make states a key stakeholder in boosting the national economy as the Constitution of India always saw them as an equal partner vis-a-vis the centre. An essential feature of the new tax framework known by ‘One nation One tax’ is the GST council, here the centre has only one third say in the decisions taken by the GST council. At the same time, the rest is accounted for by the states and all decisions have to be carried out by a 3/4th majority. Thus, this means that the fate of both the stakeholders, the centre, and the states depends on cooperation with each other.
Also, recently 14th finance commission decided that the spending decisions should be in the hands of the states rather than the centre dictating them where to spend; this clearly shows that the 14 Finance Commission accepted the fact that states are mature enough to take such decisions that are why the share of states was increased from 32 % to 42% of the net Union Tax Receipts. Thus, it did away with tied aid where the states had to subscribe to the conditionalities and restrictions prescribed by the centre and allowed states to conform to good fiscal records; they have put in a greater position to borrow from the market to fund their budget.
By accepting the 14 Finance commission’s recommendation, the centre has for the first time accepted that public expenditure is not exclusively in the jurisdiction of the states, and they get to influence their own fiscal destiny. This is a step in the right direction because states are the one which oversees law and order, public health sanitation, agriculture, education, etc. and has far more functional responsibilities than the centre in their sphere.

Pros & Cons of GST

The main reason for the implementation of GST was to abolish the cascading effect of taxes and create a common market across states to avoid such cascading effects of indirect taxes and improve tax compliance. Simultaneously, let us look at some negative impact of GST, many consumers are not very hopeful about the GST benefits its and implementation. Therefore they are hesitant to adopt the new system. Moreover, the tax rate has been increased for many products; thus, ultimately leading to the increase in the cost of such products.
Businesses must have a separate registration for multiple business entities in different states, which ultimately led to an increase in the burden of tax compliance. In addition, GST has reduced the tax revenue of some States as states are now required to share revenues with the Centre. But the centre assures states of compensation for revenue loss for 5 years following the year of implementation, where the centre has fixed base year for GST compensation as the financial year 2016.
GST may lead to apprehension in the minds of foreign investors and could force them to leave India, thus reducing its FDI inflow. However, many opine that investors won’t leave in such a hurry as the Indian economy is quite resilient, and recovery bound. Moreover, GST will lead to a more transparent revenue administration and will reduce prices of commodities as a credit of input tax is available against the output tax. It is a simplified system which produces all sort of procedural costs and brings uniformity in accounting for numerous taxes; thus it is a step in the right direction and shall work towards boosting fiscal ties between the union and the states of India. Hence, new economic measures in India shall lead India on the path of becoming a ‘Vishwa Guru’ and compliant to uniform international financial systems.