The 12th Finance Commission of India

The 12th Finance Commission (XII FC) of India, constituted under Article 280 of the Constitution, played a crucial role in shaping the fiscal relationship between the Union government and the state governments. Established in November 2002 and chaired by Dr. C. Rangarajan, its recommendations covered the period from April 1, 2005, to March 31, 2010.

Key Recommendations and Focus Areas:

Tax Devolution:

The XII FC recommended maintaining the share of states in the net proceeds of shareable central taxes at 30.5%. This figure was crucial for providing states with a predictable and stable source of revenue, allowing them to plan and implement development programs effectively. The Commission aimed to ensure that states had sufficient resources to fulfill their constitutional obligations.

Grants-in-Aid:

Besides tax devolution, the XII FC advocated for grants-in-aid to states, categorized into revenue deficit grants, grants for local bodies, and grants for disaster management. Revenue deficit grants were provided to states facing a shortfall in their non-plan revenue account. These grants were designed to bridge the gap between a state’s revenue and expenditure, ensuring fiscal stability. Grants for local bodies were earmarked for improving infrastructure and services at the grassroots level. Disaster management grants focused on equipping states to handle natural calamities and providing relief to affected populations.

Fiscal Consolidation:

A major emphasis of the XII FC was on fiscal consolidation at both the central and state levels. The Commission recognized the need for responsible fiscal management to ensure long-term economic sustainability. It recommended that the central government reduce its revenue deficit to zero by 2008-09 and eliminate its fiscal deficit by 2009-10. States were encouraged to enact Fiscal Responsibility Legislation (FRL) to manage their finances prudently and reduce debt burdens. The Commission tied debt relief for states to their performance in fiscal management, providing an incentive for fiscal discipline.

Debt Relief:

To address the problem of mounting state debt, the XII FC proposed a debt consolidation and relief facility. This scheme allowed states to consolidate their outstanding central loans and reschedule repayments at lower interest rates. This measure significantly reduced the debt burden on state finances, freeing up resources for development expenditure. The scheme’s success was linked to states’ commitment to fiscal reforms and adherence to FRL targets.

Monitoring and Evaluation:

The XII FC emphasized the importance of monitoring and evaluating the effectiveness of its recommendations. It suggested setting up mechanisms at both the central and state levels to track the utilization of grants and assess their impact on the ground. This focus on accountability and transparency aimed to ensure that the resources devolved to states were used efficiently and effectively.

Impact:

The recommendations of the XII FC had a significant impact on the fiscal health of both the central and state governments. The increased devolution of taxes and grants provided states with greater financial autonomy and resources to fund development programs. The emphasis on fiscal consolidation and debt relief helped improve fiscal discipline and reduce debt burdens. The focus on local bodies and disaster management strengthened governance at the grassroots level and improved states’ ability to respond to natural disasters. Overall, the XII FC played a vital role in promoting fiscal stability, equity, and sustainable development in India.