Sixteenth Finance Commission — misses and concerns, Pg6

Key Highlights:

• The retained the States' share at 41% in the divisible pool of central taxes.
• It discontinued revenue deficit grants and did not recommend any State and sector-specific grants.
• The Commission introduced a new criterion of contribution measured through the share of a State’s Gross State Domestic Product (GSDP).
• States like Madhya Pradesh, Uttar Pradesh, West Bengal, Bihar, Odisha, Chhattisgarh, and Rajasthan are the main losers.

16th Finance Commission

Detailed Insights:

• The Fourteenth Finance Commission increased the states' share from 32% to 42%, which was later reduced to 41% due to changes in Jammu and Kashmir's status.
• The Sixteenth Finance Commission suggested a 'grand bargain' where states agree to a smaller share in a larger divisible pool if the Centre merges a large part of cesses and surcharges into regular taxes.
• The Commission did not account for its constitutional duty to objectively determine the share of states in the shareable pool of central taxes when observing cesses and surcharges.
• The average effective transfers to states as a percentage of the Centre’s pre-transfer gross revenue receipts were 34.4% during the Fifteenth Finance Commission period.
• The Commission's projection for nominal GDP growth at 11% is higher than the Budget estimate of 10% for 2026-27.
• The Commission did not factor in the revenue-reducing effect of the Goods and Services Tax (GST) reforms undertaken in September 2025.
• The Commission used the square root of GSDP to reduce the excessive effects of using GSDP to reflect contribution on some States.
• Dropping the tax effort/fiscal discipline criterion is inconsistent with the Commission’s own narrative.
• The losses of some States could have been mitigated through normatively determined revenue gap grants.
• Article 275 provides an important mode of fiscal transfers for the consideration of State-specific ‘needs’ to equalize standards of critical services such as health and education.

Key Concepts Involved:

• Finance Commission: A constitutional body that determines the distribution of tax revenues between the Union and the States.
• Divisible Pool: The portion of central taxes that is distributed between the Union and the States.
• Gross State Domestic Product (GSDP): A measure of the total value of goods and services produced within a state's boundaries.
• Cesses and Surcharges: Taxes levied by the Union government for specific purposes, not usually shared with states.