The pitfalls of coercive federalism

A series of strains test the nation today. The farmers’ agitation earlier and ongoing is one such. But never before have elected chief ministers of states taken to street protests to make their point. This extreme action indicates a weakening of the internal fibre that makes the country, and is at odds with the narrative playing out on the world stage of a resurgent India.

How can internal imbalance lead to external resilience? In this frame, of particular significance are the tensions between the Central government and the opposition-ruled state governments.

In February, the chief ministers of Kerala and Karnataka staged demonstrations in Jantar Mantar, New Delhi, along with their cabinet ministers, legislators and MPs to protest what they see as discrimination in the distribution of federal funds.

Kerala has also taken its demand for funds to the Supreme Court. Chief minister Pinarayi Vijayan says he has been forced to take this unprecedented step against “financial injustice by the Centre and a breakdown in the federal structure of the country”.

He called 8 February, the day of the LDF (Left Democratic Front) protest, a “red letter” day in the history of India. On the same day, the Supreme Court asked the central government to file its response to Kerala’s interim application seeking an urgent release of funds. The Centre has argued that it cannot be blamed for Kerala’s “financial mismanagement”.

On 7 February, Karnataka chief minister Siddaramaiah staged a similar protest to draw attention to an unfair allocation of funds and injustice in tax devolution. Karnataka has argued that while it ranks second in GST collections, it has lost nearly Rs 60,000 crore due to GST implementation and a little less than Rs. 63,000 crore on tax devolution.

Karnataka and Kerala, supported by Tamil Nadu, have said that their protest is also to safeguard the constitutional rights of all states and secure their dues.

Centre-state relations and the complex issue of tax devolution have thus been turned into an ugly tug-of-war rather than a give-and-take for the betterment of both. At present, whatever the nature of the discourse, the states cannot be allowed to flounder to the extent that their elected heads have to stage protests in Delhi. This situation is close to a constitutional breakdown and serves no good.

Consider the case of Kerala, which the Reserve Bank of India has categorised among the top five financially stressed states. A study of fiscal parameters of states by the RBI identified Bihar, Kerala, West Bengal, Punjab and Rajasthan as highly stressed due to their high levels of debt and fiscal deficit.

High debt implies that the state spends a significant share of its revenue servicing debt. For instance, many states spend about 10 per cent or more of their revenue receipts on interest payments. West Bengal and Punjab spend more than 20 per cent on interest payments. Why is this so and how it can be addressed in the medium and long term is a matter of debate and dialogue; it should not be reduced to a slanging match.

Kerala has run up a mountain of IOUs. The LDF government has blamed the Centre for the situation and alleges that it is being pushed into the worst financial crisis in the state’s history.

Flagging steps like the Central government’s reduction of Kerala’s borrowing limit with retrospective effect from 2021–22, the LDF government has said the state suffered a cumulative loss of Rs. 107513.09 crore for the period 2016–2023.

Comparing allocations reveals that Kerala was getting 3.8 per cent of the divisible pool at the time of the 10th Finance Commission. That has now been reduced to 1.9 per cent. Some revenue deficit grants have also been stopped.

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While presenting the state budget earlier this month, Kerala finance minister K.N. Balagopal held the Centre’s “hostile approach” responsible for the present financial crisis.

India works on the principles of cooperative federalism under which expenditure incurred and taxes raised are responsibilities shared by both the states and the Centre, ideally, in a fine balance. However, in reality, while the Centre has a larger share of the revenue, the states have a bigger share of the responsibility, which includes social service, economic and welfare schemes and projects.

In India, states incur over 60 per cent of the total general government expenditure. This ‘vertical imbalance’, as it is termed, is corrected through transfer of funds from the Centre to the states. It is this that the states, especially the opposition-ruled southern states, are irate about — the skewed transfer and distribution of funds.

At the time of the pandemic, former Kerala finance minister Dr Thomas Isaac had said that synchronising the responses of the Centre, the states and local governments was necessary, indeed inevitable, if the pandemic was to be contained.

“Never have fiscal relations between the Centre and states been so strained as is the case today,” he had said then. “The rhetoric of cooperative federalism is being transformed into coercive federalism hampering national response to Covid-19”.

Among other instances, Isaac referred to the imposition of conditions on the additional borrowing permitted to the states as part of the Central stimulus package, which, under the guise of the pandemic, was undermining the fiscal autonomy of the states.

He also warned that any squeeze on the states’ development expenditure — which accounts for 60 per cent of the combined government expenditure — in a period of slump would have a disastrous socio-economic impact.

This is exactly what the former Tamil Nadu chief minister K. Palaniswami, an ally of the BJP, accused the Central government of doing. He said, in an open letter to the Prime Minister in 2020, that the Centre ‘aggressively pushing a reform agenda on which consensus is yet to be developed at a time when states have approached the Centre for additional borrowing out of sheer desperation is not in keeping with the spirit of cooperative federalism’.

Important issues of budgetary allocations, fiscal prudence, debt management and revenue expenditure must be discussed and debated, and guided by pre-agreed frameworks. This is how India has worked. A non-hostile and accommodative approach can help the Centre and states towards a more balanced and sustainable way of managing their finances.

There is a lot that the nation can learn from Kerala and its superior development indicators, and indeed from all the southern states. Similarly, there is a lot that the states need to help fix in terms of reducing deficits. In the end, balancing budgets is important but a precondition to overall national development is managing federal relations.

(Lekha Rattanani is the managing editor of The Billion Press)