FINANCE COMMISSION

The Finance Commission of India is a constitutional body established under Article 280 of the Indian Constitution. Its primary role is to define the financial relations between the central government and the individual state governments. The Finance Commission ensures a balanced distribution of financial resources, promoting fiscal federalism in India.

Objectives of the Finance Commission

1. Revenue Distribution: To recommend the distribution of net proceeds of taxes between the Centre and the States.
2. Grants-in-Aid: To provide grants-in-aid to the states from the Consolidated Fund of India.
3. State Finances: To address issues related to the financial health of state governments and suggest measures for their fiscal stability.
4. Resource Allocation: To allocate resources in a manner that helps in the reduction of inequalities among states and promotes balanced regional development.

Composition of the Finance Commission

The Finance Commission is constituted by the President of India every five years. It consists of a chairman and four other members appointed by the President. The qualifications of the members are determined by the Parliament of India.

Key Functions of the Finance Commission

1. Distribution of Tax Revenues: Recommends the percentage of the central tax revenues that should be shared with the states.
2. Grants-in-Aid: Suggests the principles that should govern the grants-in-aid to the states.
3. Measures to Augment State Resources: Proposes measures to enhance the financial resources of the states.
4. Addressing Fiscal Imbalances: Suggests ways to address both vertical (between Centre and States) and horizontal (among States) fiscal imbalances.

Notable Finance Commissions

14th Finance Commission (2015-2020)

Chairman: Dr. Y. V. Reddy

• Key Recommendations:
  • Increased the states’ share of central tax revenue from 32% to 42%.
  • Focused on the principle of cooperative federalism.
  • Recommended grants for local bodies, disaster management, and other sectors.

Impact:

• Enhanced fiscal autonomy of states.
• Strengthened the financial position of local bodies and disaster management mechanisms.

15th Finance Commission (2020-2025)

Chairman: N. K. Singh

• Key Recommendations:
  • Retained the states’ share of central tax revenue at 41%.
  • Special grants to states for health, education, and infrastructure.
  • Performance-based incentives for states in areas such as power sector reforms, adoption of direct benefit transfer, and ease of doing business.

Impact:

• Encouraged states to undertake critical sectoral reforms.
• Supported states in managing the economic fallout of the COVID-19 pandemic by providing additional fiscal space and grants.

Example: Implementation of 15th Finance Commission Recommendations

In the Union Budget 2021-22, the central government implemented several recommendations of the 15th Finance Commission:

1. Revenue Sharing:
   • The budget allocated 41% of the divisible pool of taxes to the states, as recommended by the 15th Finance Commission.
   • The allocation was aimed at ensuring fiscal stability and enabling states to meet their expenditure needs.
2. Grants-in-Aid:
   • The budget provided grants to states for health and education sectors, focusing on improving public healthcare and educational infrastructure.
   • Special grants were allocated for disaster management and local body grants to ensure grassroots-level development.
3. Performance-Based Incentives:
   • The budget introduced incentives for states based on their performance in power sector reforms, enhancing ease of doing business, and efficient implementation of direct benefit transfers.

Challenges and Criticisms

1. Balancing Act: The Finance Commission often faces the challenge of balancing the fiscal needs of the Centre and the States, especially during economic downturns.
2. Disparities Among States: Ensuring an equitable distribution of resources while addressing the disparities among states can be complex.
3. Implementation: The recommendations are advisory in nature, and their implementation depends on the central government, which sometimes may not fully adhere to the recommendations.

Conclusion

The Finance Commission plays a pivotal role in India’s fiscal policy by ensuring a fair distribution of financial resources between the Centre and the States. By addressing fiscal imbalances and providing critical grants-in-aid, the Finance Commission helps promote balanced regional development and fiscal stability. The recommendations of the Finance Commission, such as those of the 14th and 15th Commissions, have significantly impacted India’s fiscal landscape, enabling states to meet their expenditure needs and undertake essential reforms.