The 15th Finance Commission report for 2020-21 was tabled in Parliament on February 1. Every finance commission decides the vertical distribution of divisible pool of taxes between GoI and state governments, and the horizontal distribution of the share between states.
For the latter, we are now used to the idea of a formula. For instance, the 2020-21 report gives 15% weight for population, 15% for geographical area, 10% for forest and ecology, 45% for income distance, 12.5% for demographic performance and 2.5% for tax effort. Population, area, and forest and ecology are described as being need-based, income distance as equity-based, and demographic performance and tax effort as performance-based.
Make for a Better Spread
This idea of a formula evolved with time. There was a shift with the 8th Finance Commission, and yet again with the 10th. Geographical area has had varying weights since the 10th commission, increasing from 7.5% in the 10th and 11th to 10% in the 12th and 13th, and increasing yet again to 15% in the 14th and 15th. The 15th Finance Commission is unlikely to vary the 15% weightage to geographical area significantly.
So, what is special about geographical area, and why do we accept its inclusion as being obvious? (Since the 10th Finance Commission, there has also been a minimum threshold of 2% for states with small geographical areas. But this is not relevant for the point being made here.) The 11th Finance Commission’s report provided a justification: ‘This factor was introduced for the first time by the 10th Finance Commission.
States which have a large area and low density of population continue to incur heavy expenditure for providing basic administrative infrastructure. The cost is very high compared to a state with an area of similar size, but a high density of population.’
The 12th and 13th Finance Commissions automatically accepted this cost disability factor.
The 14th Finance Commission’s report had a statement that wasn’t actually used in devising the formula, but made an important point: ‘Three states with hilly terrain have suggested the use of area as a threedimensional space instead of two-dimensional, since the latter does not capture the undulating topography of the hill states and the cost disability arising as a result. One of these states has also suggested that in case it is not possible to take three-dimensional area as a criterion, then 10% weight should be assigned to the proportion of hilly areas in the total area of a state and 5% weight should be given to the two-dimensional area.’ It is a pity the idea wasn’t used.
Every citizen must have access to a minimum threshold of public goods and services, wherever he or she resides.
Hence, the cost disability and topographical area argument is, indeed, superior to geographical one.
State-wise topographical data are not readily available, but are ‘unreadily’ available through the Survey of India. It won’t take a great deal of effort to put it together. They are floating around in the system, without being aggregated.
Proper topographic maps require both natural and man-made features —they should detail landforms, terrain, lakes, rivers, forest cover, administrative areas, transportation routes and some important man-made features like roads and railways. If topographical area is, indeed, used instead of geographical area, state shares in horizontal distribution will change.
Cost and Effect
For instance, based on ground relief alone (landforms and terrain), Assam’s topographical area will be 8% more than its geographical area. It will be 7% more in the case of Meghalaya.
Just as the 10th Finance Commission represented a cusp, so does the 15th — or, perhaps, the 16th. With Geographical Information System (GIS) tools available, there is no reason why we should only stick to traditional factors like geographical area.
Thanks to GIS, topographical maps can be extremely advanced.
GIS helps map the spatial location of real-world features. It also helps map the number of schools, hospitals and other underground and overground infrastructure available in a specific area. Many states have used GISenabled tools to develop cadastral data for land administration and master planning. They are in the process of creating geospatial data layers for overground and underground utilities.
Why not use such tools for horizontal distribution?
Inherent in a measure like geographical area is the mindset that distance (that is, radius) from the state capital and the corresponding area covered (that is, ðr2, with r being the radius) indicates cost. That’s not quite how goods and services are delivered.
That’s the reason why this is also a State Finance Commission issue, and not just a Union Finance Commission one. It’s a district-level problem, perhaps even lower down.
To address equity, one needs to know how much it costs to deliver (per capita per unit) goods and services in different parts of the country.
Take Chhattisgarh, which has a geographical area of 1,35,190 sq km. Does that area give a sense of how much it costs to deliver goods and services there? Not really, since hilly areas to the north and south are not the same as the topography in the central plains.
Union and State Finance Commissions should shift the discourse to estimation of actual cost, beyond surrogate indicators like geographical area using existing tools.
Debroy is chairman, Prime Minister’s Economic Advisory Council, and Kumar is director, ministry of railways.