A

Report

S U B : M a n a g e m e n t Of P u b l i c S y s t e m s

Issue no.: 2

Topic: Centre-state Financial Relations

Submitted to: Mr. Gaurang Badheka

I N D U K A K A I P C O W A L A I N S T I T UT E O F M A N A G E M E N T ( I 2 I M )

M.B.A PROGRAMME

C o n s t i t u e n t o f C h a r o t ar U n i v e r s i t y of s c i e n c e a n d t e c h n o l o g y
(CHARUSAT)

Submitted by

Mandar Sathe (09mba410)

D i l i p Sh a h ( 0 9 m b a 4 3 )

B h a u m i k S h a h( 0 9 m b a 4 2 )

( A pr i l 2 0 1 1 )
 Public Finance – Central & State Relationship

What is meant by Public finance?

 Public Finance is that part of finance which hovers around the central question
of allocation of resources subjected to the budget constraint of the government or
public entities.

 It is that branch of economics which identifies and appraises the means and
effects of the policies of the government.

 Public sector finance tries to examine the effects and consequences of different
types of taxation and expenditures on the economic agents (individuals,
institutions, organizations, etc.) of the society and ultimately on the entire
economy.

 Public finance also analyzes the effectiveness of the policies aimed at certain
objectives and consequently to the development of procedures and techniques
for increasing the effectiveness of the policy.

 Public Sector Finance mainly deal with proper allocation of resources with
regards to the given budget constraint.

 Public Finance generally deals with the financial activities of the Government;

on the contrary, Private Finance deals with Individual financial activities.

 Public Finance India is dedicated to the research of the financial health of state
governments and local bodies in India.

 The portal's objective is to improve the financial transparency of India's state and
local governments.
  It is an endeavour to bring together the various constituents of the public finance
market- state and municipal issuers, public private partnerships, consultants,
financiers, the academia and research professionals.

Taxation

 Headed by the finance ministry of the government of India. India has a three-tier
tax structure, wherein the constitution empowers the union government to levy 

 Income tax

 Tax on capital transactions (wealth tax,)

 sales tax

 service tax

 customs and,

 excise duties

 The state governments to levy sales tax/VAT on intrastate sale of goods, tax

on entertainment and professions, excise duties on manufacture of alcohol ,
stamp duties on transfer of property and collect land revenue (levy on land
owned).

 The local governments are empowered by the state government to levy property

tax and charge users for public utilities like water supply, sewage etc.

  More than half of the revenues of the union and state governments come from
taxes, of which half come from Indirect taxes. More than a quarter of the union
government's tax revenues is shared with the state governments.
 The non-tax revenues of the central government come from fiscal services,
interest receipts, public sector dividends, etc., while the non-tax revenues of the
States are grants from the central government, interest receipts, dividends and
income from general, economic and social services.

INDIRECT TAXEX IN CRORES

 Centre State Relation

 The Constitution of India which came into force in 1950 provides a clear-cut
distinction between union and state functions and revenue resources.

 Allocation of heads of taxation between the union and the states is based on the
broad principle that the taxes which are location-specific and relate to subjects of
local consumption have been assigned to the states.

 Those taxes which are of inter-state significance have been vested in the union.
There is no concurrent jurisdiction in regard to taxation powers. Income Tax and
Excise Duties are shared with the states.

 The central government can borrow both within and outside the country whereas
the states can borrow only within the country with the consent of the central
government.

 The Constitution provides for the setting up of a Finance Commission. The

functions of the Commission are to make recommendations to the President in
respect of:

1. The distribution of net proceeds of taxes to be shared between the Union

and the States

2. The principles which should govern the payment of the Union grants-in-aid.

The distribution of net proceeds of taxes to be shared between the Union

and the States
 The principles generally observed by the Finance Commission are:

 The resource transfers from the union should not cause undue strain on its
resource base.

 The distribution of resources among the states should follow uniform criteria.

 The scheme of distribution should attempt to lessen the inequalities between the
states.

 The need to protect national interests, preserve the autonomy of states and
promote fiscal discipline among the union and the states.

The principles which should govern the payment of the Union grants-in-aid.

The principles generally observed by the Finance Commission are:

 Budgetary needs

 Tax efforts

 Economy in expenditure

 Standard of social services and special obligations.

 The Planning Commission was set up in 1950 with the objective mainly of
formulating plans for the most effective use of the nation's resources.

 National Development Council is the apex body of the nation for the approval of
the various plans and policies.

 The Planning Commission recommends transfer of resources by way of

assistance for the execution of the State Plans including Centrally Sponsored
Schemes.
 In spite of the criticism that the Planning Commission's recommendations are
dependence-generating for the states, by and large it is’ felt that these transfers
are fairly objective and flexible.

 Division of financial powers

 Revenue taxing powers at the Union level

 States carry the responsibility for subjects that affect the day to day life of
the people

 On an average, the revenue of States from their own resources suffices only for
about 50 to 60 percent of States’ current expenditure.

 To fulfil the insufficiency of financial resources finance commission is formed

under article 280 for financial transfers from the Union.

 Its function is to ensure orderly and judicious devolution that is deemed

necessary from the point of view of avoiding vertical or horizontal imbalances.

  The Finance Commission is only one stream of transfer of resources from the
Union to the States.

 The Planning Commission advises the Union Government regarding the

desirable transfer of resources to the States over and above those recommended
by the Finance Commission.

 Bulk of the transfer of revenue and capital resources from the Union to the
States is determined largely on the advice of these two Commissions.

 There are some discretionary transfers as well to meet the exigencies of specific
situations in individual States.
 RESTRUCTURING PUBLIC FINANCES

 Centre and States to improve the combined tax-GDP ratio to 17.6 per cent by
2009-10.

 Combined debt-GDP ratio, with external debt measured at historical exchange

rates, to be brought down to 75 percent by 2009-10.

 Fiscal deficit to GDP targets for the Centre and States to be fixed at 3 per cent.

 Revenue deficit of the Centre and States to be brought down to zero by 2008-09.

 Interest payments relative to revenue receipts to be brought down to 28 per cent

and 15 per cent in the case of the Centre and States, respectively.

 States to follow a recruitment policy in a manner so that the total salary bill,
relative to revenue expenditure, net of interest payments, does not exceed 35 per
cent.

 Each State to enact a fiscal responsibility legislation providing for elimination of

revenue deficit by 2008-09 and reducing fiscal deficit to 3 per cent of State
Domestic Product.

 The system of on-lending to be brought to an end over time. The long term goal
should be to bring down debt-GDP ratio to 28 per cent each for the Centre and
the States.
 SHARING OF UNION TAX REVENUES

 The share of States in the net proceeds of shareable Central taxes fixed at 30.5
per cent, treating additional excise duties in lieu of sales tax as part of the
general pool of Central taxes. Share of States to come down to 29.5 percent,
when States are allowed to levy sales tax on sugar, textiles and tobacco.

 In case of any legislation enacted in respect of service tax, after the notification of
the eighty eighth amendment to the Constitution, revenue accruing to a State
should not be less than the share that would accrue to it, had the entire service
tax proceeds been part of the shareable pool.

 The indicative amount of overall transfers to States to be fixed at 38 per cent of

the Centre’s gross revenue receipts.

Local bodies

 A grant of Rs.20,000 crore for the Panchayati Raj institutions and Rs.5,000 crore
for urban local bodies to be given to States for the period 2005-10.

 Priority to be given to expenditure on operation and maintenance (O&M) costs of

water supply and sanitation, while utilizing the grants for the Panchayats. At least
50 per cent of the grants recommended for urban local bodies to be earmarked
for the scheme of solid waste management through public-private partnership.
 Calamity relief

 The scheme of Calamity Relief Fund (CRF) to continue in its present form with
contributions from the Centre and States in the ratio of 75:25. The size of the
Fund worked out at Rs.21,333 crore for the period 2005-10.

 The outgo from the Fund to be replenished by way of collection of National

Calamity Contingent Duty and levy of special surcharges.

 The definition of natural calamity to include landslides, avalanches, cloud burst

and pest attacks.

 Provision for disaster preparedness and mitigation to be part of State Plans and
not calamity relief.

Grants-in-aid to States

The present system of Central assistance for State Plans, comprising grant and
loan components, to be done away with, and the Centre should confine itself to
extending plan grants and leaving it to States to decide their borrowings.

Non-plan revenue deficit grant of Rs.56,856 crore recommended to 15 States for

the period 2005-10. Grants amounting to Rs.10,172 crore recommended for the
education sector to eight States. Grants amounting to Rs.5,887 crore
recommended for the health sector for seven States. Grants to education and
health sectors are dditionalities over and above the normal expenditure to be
incurred by States.

 A grant of Rs.15,000 crore recommended for roads and bridges, which is in

addition to the normal expenditure of States.

 Grants recommended for maintenance of public buildings, forests, heritage

conservation and specific needs of States are Rs. 500 crore, Rs.1,000 crore,
Rs.625 crore, and Rs.7,100 crore, respectively.
 Others

 The Centre should share ‘profit petroleum’ from New Exploration and Licensing
Policy (NELP) areas in the ratio of 50:50 with States where mineral oil and
natural gas are produced. No sharing of profits in respect of nomination fields
and non-NELP blocks.

 Every State to set up a high level committee to monitor the utilization of grants
recommended by the TFC.

 Centre to gradually move towards accrual basis of accounting.