Eleventh Finance Commission Report

The Eleventh Finance Commission (EFC), constituted in July 1998 under the chairmanship of A.M. Khusro, submitted its report to the President of India in August 2000. Its recommendations covered the five-year period from 2000-2005. The Commission addressed critical issues pertaining to fiscal federalism, resource allocation between the Union and the States, and financial discipline.

A key focus of the EFC was on correcting vertical and horizontal imbalances in the fiscal situation of the Union and States. Vertical imbalance refers to the mismatch between the revenue-raising capacity of the Union and States versus their expenditure responsibilities. Horizontal imbalance refers to the disparities in the fiscal capacity of different States.

In addressing vertical imbalance, the EFC recommended that the share of States in the net proceeds of shareable central taxes be fixed at 29.5%, a slight increase from the Tenth Finance Commission’s recommendation. This encompassed income tax, union excise duties (excluding cesses and surcharges earmarked for specific purposes), and other shareable taxes. The Commission emphasized the need for a more stable and predictable transfer system.

To tackle horizontal imbalance, the EFC formulated a criteria-based approach for distributing the States’ share of central taxes. The criteria included population (weighted at 10%), area (5%), index of infrastructure (15%), tax effort (5%), fiscal discipline (17.5%), and distance from the highest per capita income (47.5%). The “distance from the highest per capita income” criterion was particularly significant as it aimed to provide larger shares to poorer states, thereby reducing regional disparities. The index of infrastructure sought to compensate states with inadequate infrastructure.

The EFC also stressed the importance of fiscal discipline at both the Union and State levels. It emphasized the need for prudent debt management and recommended measures to contain revenue deficits and reduce overall indebtedness. It suggested that States should formulate and implement medium-term fiscal correction plans. Furthermore, the Commission underscored the importance of enhancing the quality of expenditure, focusing on priority sectors like education, health, and infrastructure.

In addition to tax devolution, the EFC recommended grants-in-aid to States under Article 275 of the Constitution. These grants were intended to address specific needs, such as upgradation of infrastructure, special problems, and local body finances. The Commission laid particular emphasis on strengthening Panchayati Raj Institutions and urban local bodies, recommending specific grants for their development and capacity building.

The Eleventh Finance Commission’s report was a significant step in shaping the fiscal relations between the Union and States in India. While its recommendations were largely accepted and implemented, debates continued regarding the effectiveness of the distribution criteria and the extent to which they truly addressed regional disparities and promoted fiscal discipline. The report, however, provided a framework for subsequent Finance Commissions to build upon in their efforts to achieve a more equitable and sustainable fiscal federalism in India.