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The challenges of fiscal discipline

The 13th Finance Commission, constituted recently with former Union Finance Secretary Vijay L. Kelkar as the chairman, has its work cut out. Mandated to suggest a reordered Centre-State financial regime for the five-year period, 2010-16, it will be looking at issues related, inter alia, to the distribution of taxes between the Centre and the States and the principles that should govern grants-in-aid to the States against the backdrop of some significant developments in recent years. There has been satisfactory progress towards fiscal consolidation both at the Central and State levels following the adoption of special laws committing governments to a certain degree of fiscal responsibility. All major States have switched to the Value Added Tax (VAT) regime and the tax revenue has recorded a sharp rise since the changeover. The Central sales tax is being phased out from this year. A road map has been unveiled for introducing a Goods and Services Tax (GST) across the country from April 2010. This will mean that tax offsets would be available on transactions between States, not just on intra-State transactions as now.

The Commission’s task of suggesting an appropriate revenue sharing model will be more challenging under a GST regime. However, public expenditure rather than resources mobilisation will be its main worry. Vastly improved tax collections at the Centre, attributed largely to the booming economy and partly to a sprucing up of tax administration, has resulted in a larger allocation of tax revenues to the States. Following the 12th Finance Commission’s recommendations, incentives were given to the States for fiscal improvements through debt reduction and lower interest rates. As many as 19 States have qualified for write-offs of Central loans in 2006-07. The new Commission will no doubt be guided by the precepts enunciated by its predecessors in recommending incentives to the States by way of rewards for fiscal discipline. But the deteriorating quality of public services and tardy implementation of many publicly funded projects will be its major areas of concern.The high growth and buoyant revenues on the one hand and increased expectations and funding needs of the social sectors and infrastructure, on the other, have gone to shape the challenges before the Kelkar Commission.

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