'Devolution of power is crucial'

Interview with Professor I.S. Gulati, Vice-Chairperson, Kerala State Planning Board.

The Award of the Eleventh Finance Commission (EFC) has once again brought to the fore the issue of Centre-State financial relations. The issue of Centre-State relations is of course not confined to the question of finance. It is widely agreed that the qu asi-federal character of India's polity has eroded over the five decades since Independence, with the Union government having encroached upon the domains originally assigned exclusively to the States. Following the break-up of the monopoly of Congress ru le at the Centre and in the States in the post-1967 period, the entire gamut of issues pertaining to Centre-State relations has been almost constantly in the domain of political debate.

Both regional parties - such as the Dravida Munnetra Kazhagam (DMK) and All-India Anna Dravida Munnetra Kazhagam (AIADMK) in Tamil Nadu, the Telugu Desam Party (TDP) in Andhra Pradesh and the Assam Gana Parishad (AGP) in Assam - and the Left parties have consistently demanded greater devolution of powers to the States. While electoral and other political compulsions have often forced the regional parties into uneasy alliances with national parties, such as the Congress and the Bharatiya Janata Party, wi th a strong bias towards centralisation muting their voices in favour of greater devolution, the Left parties have consistently championed the cause of devolution. At the same time, in the States where they have been in power, the Left parties have shown a greater commitment to devolution of power to elected local bodies than most other parties. An outstanding example in this context is Kerala. Not only has Kerala's current Left Democratic Front (LDF) government allocated 35 to 40 per cent of Plan funds to the local bodies, it has also tried a massive social experiment to promote people's participation in the formulation and implementation of Plans through the People's Plan campaign. In this process a key role has been played by the Kerala State Planning B oard. Professor I.S. Gulati, a distinguished economist, has been the Vice-Chairperson of the Board throughout the period of the conceptualisation and implementation of the People's Plan campaign. While being an ardent supporter of devolution of po wers to local bodies, Professor Gulati has also been consistently critical of the Centre's encroachment on the limited financial and other powers of the States. In an interview he gave Dr. Venkatesh Athreya in Thiruvananthapuram in the third week of October, Professor Gulati shares his views on some aspects of the EFC Award and certain dimensions of fiscal policy. Excerpts:

Your longstanding interest in and contributions to the field of federal finance are well known to both academics and policy-makers. You were a member of the Sixth Finance Commission and have authored several works on Centre-State financial relations. Is your interest in federal finance directly related to your current responsibility as the Vice-Chairperson of the Kerala State Planning Board?

I have been an academic for the greater part of my life. My interest in the subject of federal finance began much before I became a member of the Sixth Finance Commission and has continued thereafter. It is also true that, as Vice-Chairman of the Kerala State Planning Board, I cannot keep away from issues of federal finance.

Central allocations to a State, whether by the Planning Commission or by the Finance Commission, virtually dictate the size of a State Plan. Of course, every State has to mobilise its own resources also for the purpose. However, the devolution from the C entre is crucial. This is why issues of federal finance are so critical to States.

Prof. Gulati, the report of the Eleventh Finance Commission (EFC) has attracted considerable comment and for the first time eight States, including Kerala, got together, and made a representation against the Award of the EFC and demanded major revisio ns in the Award. How would you respond to the argument that it was inappropriate on the part of the State governments to have acted collectively against the Award of a constitutionally mandated body? Further, how do you respond to the view that questioni ng the Finance Commission Award in the manner that eight States have done (by organising a conclave, and coming out jointly against the Award) amounts to a threat to the very institution of the Finance Commission?

You have really asked me more than one question, and I would like to respond to each, step by step.

I do not subscribe to the view that the Award of a constitutionally mandated body should not be subjected to critical examination. Nor do I accept the view that State governments coming together to make a representation is tantamount to questioning the i nstitution of the Finance Commission itself. I cannot think of any other course of action that aggrieved States could take except joining hands together to make an impact.

I am also surprised at people taking cover behind the constitutional mandate. Has anybody ever objected when people raised questions about certain judgments delivered by the High Courts and the Supreme Court, which are constitutionally mandated bodies? I s it not a fact that people have gone back to the courts for a review of their earlier judgments? I wish to make three points in this regard:

1. Everyone would agree that the Finance Commission is an essential part of the basic structure of federal finance as conceived in our Constitution. To ensure that the institution of the Finance Commission is not trifled with the way the Centre has been doing from time to time, be it in its composition or in fixing its terms of reference or formulating Action Taken Reports on the Award, the processes by which the Commission is set up, its Award examined and a final view taken need to be democratised. Th e States, which have their own constitutionally assigned domain in our quasi-federal set-up, need to be involved in these processes in a meaningful manner.

2. To create the impression that when States jointly or individually question an Award it amounts to questioning the very basic structure of federal finance is utter nonsense and amounts to panicking.

3. The suggestion that, instead of leaving everything to the sweet will and pleasure of the Central Ministries concerned, a procedure should be developed where the States are consulted, if necessary through the Inter-State Council (ISC), does not amount to threatening the institution as such, but it does question the prerogative that the Centre has arrogated to itself in the appointment of the Finance Commission and in fixing its terms of reference.

The additional terms of reference given to the EFC to formulate a fiscal reform programme that can be monitored disregards certain provisions of the Constitution, with regard to Article 275 on grants-in-aid to States in need of assistance.

Here I should also say (I have said this in my writings before) that it is necessary to go much beyond the Sarkaria Commission and lay down procedures for the composition of a Finance Commission. The procedures have to be such that the State governments are actively involved. A panel of names could be drawn up by experts in fields such as public finance, constitutional law and administrative systems, and then sent for discussion at the ISC for the submission of the final list to the President.

Given your interpretation on the State Governments getting together and asking for major revisions in the EFC Award, how do you react to the view that the Award of a Finance Commission is not to be tinkered with?

I am surprised at this question because it is well known that the Centre has often tinkered with the Award and even rejected some parts of an Award. Did not Pranab Mukherjee, as Finance Minister, reject that part of the Finance Commission Award recommend ing a special lumpsum allocation to West Bengal? No amount of protest from (West Bengal Chief Minister) Jyoti Basu could move Prime Minister Indira Gandhi. The present government at the Centre has made a major change in the Tenth Finance Commission (TFC) Award, allocating to the States a share of the Centre's gross tax revenues. Instead, Yashwant Sinha has, in the name of consistency with other provisions of the Constitution, decided to do the allocation on the basis of the Centre's net tax revenues. It was only after very loud protests from several State governments that he agreed to compensate the States for any loss they would have to incur on account of the change. Those persons who object to States taking issue with a Finance Commission Award are deafeningly silent when the Centre tinkers with the Awards.

In an interview that Prof. A.M.Khusro, EFC Chairman, recently gave, his reaction to the representation of the States was almost dismissive. His response was that the EFC had to take note of both equity and efficiency criteria. How do you respond to th is?

I have known Prof. Khusro for 30 years. I cannot believe that he is capable of using intemperate words as reported in the media.

As for the claim of having taken note of both equity and efficiency criteria in deciding upon the Award, practically all the eight States, including Kerala, obviously felt strongly that their performance, not only in promoting economic growth but also in reducing the incidence of poverty had not been given due weightage by the EFC. It is very unfortunate that a wrong tradition has been set - of not throwing open to the public the various working papers of a Finance Commission. It is this total lack of t ransparency that creates a situation like the one we have been talking about.

Does the problem the eight aggrieved States face in terms of a lower share of allocation arise because of the reconciliation between the claims of equity and efficiency that the EFC might have made?

No one will fail to agree that both equity and efficiency have to be taken note of. At the same time, however, it has to be made sure that in giving relative weightage to these criteria, the Award does not end up being against both equity and efficiency.

Let us take Kerala's case. Our share of the total allocation under the Award is not only below what it was under the TFC's Award but also below our population share. How justified is this downgrading of Kerala? The State has achieved reasonably good econ omic growth in terms of State Domestic Product (SDP) and even in per capita terms. At the same time, the proportion of people below the poverty line (BPL) has come down significantly. It will not be incorrect to argue that the State has done well in term s of both equity and efficiency. Yet, because this very performance has led to a decline in the "distance" in terms of per capita SDP between Kerala and the State with the highest per capita SDP, the State is being penalised on grounds of "equity".

You illustrated how the Centre tinkered with the Tenth Finance Commission's Award by making net tax revenues (changing from gross to net tax revenue) as the basis to determine the share of States. Is your objection purely on formal grounds?

I also have a substantive reason for objecting to the use of net tax revenues as the base because netting creates a loophole for the Centre to manipulate things in such a way - say, for instance, raising surcharges and not tax rates - that the base remai ns low. I am also sure that the TFC must have had strong reasons for using gross tax revenues as the base.

In my lectures on tax policy, I used to tell my students how important it is to be aware of deductions and exemptions allowed in the computation of chargeable income or profits. We also know why the Union Finance Minister had to introduce the minimum tax provision when it was discovered that several leading companies hardly paid any profits tax by availing themselves of permissible deductions and exemptions. Recent reports from the United States also are that several leading corporates avoid payment of tax altogether or to a considerable extent, and it has become a subject of debate in the ongoing presidential race. I am surprised that the EFC stuck to using net central tax revenue as the base, although for overall total fiscal transfers to the State, even the EFC uses the gross tax and non-tax revenues of the Centre.

In an interview you gave Frontline at the time that the Structural Adjustment Programme was being introduced by the then minority Congress (I) government in 1991-92, you had objected to the obsession with fiscal deficit. Although this issue is not directly related to federal finance, it is nonetheless not entirely unrelated either, insofar as such an obsession paralyses the government and prevents it from providing the stimulus for expansion when needed. What is your view now, in the light of the experience of the Indian economy in the 1990s, on targeting the fiscal deficit?

I continue to believe that targeting fiscal deficit, that is government borrowing, is wrong economics forced on us by the IMF (International Monetary Fund) and the World Bank. I still am not convinced of the argument that government borrowing necessarily crowds out private borrowing. I am not aware of any research finding that has conclusively established this proposition, although government documentation continues to harp on it. A falsehood repeated several times does not become truth.

I recall that in my very first paper I pointed out the distinct possibility that in reducing fiscal deficit a government would tend to reduce sharply its capital account expenditure. In the process, it was natural that investment in infrastructure develo pment by the government would tend to suffer.

I am not against government borrowing as a resource to be tapped when necessary, nor am I worried about government debt or public debt increasing as a proportion of GDP. The important thing is that government borrowing should be for productive purposes, so that interest cost can be met from increased revenues. That is where fiscal responsibility should come in.

In the light of your response on targeting fiscal deficit, what is your view on the proposal to introduce a Fiscal Responsibility Act?

Not that I am not in favour of exercising fiscal responsibility in government spending, but I do not think that fiscal responsibility either begins or ends with keeping fiscal deficits low. Fiscal responsibility, incidentally, should also extend to reven ue mobilisation. Tax give-aways for the rich have led to a situation where the tax-GDP ratio of the Centre has been on the decline in the past 15 years.