Posted on 21-12-2009
Filed Under (Checks & Balances) by Rashtrakut

The ruckus about the creation of a new Telangana state in India brought to the forefront the issue of “small” vs. “big” states in India.  Federal polity in India has one marked difference that that in the United States.  The United States of America was created by a compact among its constituent states which preceded the national entity.  As a result, even though the constitution permits the splitting or merging of states (Article 4, Section 3, Clause 1) with two exceptions (Maine which was carved out from Massachusetts to create a free state to balance Missouri under the Missouri compromise and West Virginia which seceded from Virginia at the start of the civil war) the American states (territories are a different matter) have been relatively sacrosanct.

This was not the case in India.  The mish mash of the provinces of British India and the princely states that acceded to the India at independence made the reorganization of states essential.  Even though the trauma of partition ensured that the power of states would be curbed (more on that later), in the 1950s the fateful decision was made to reorganize the states on linguistic grounds rather than administrative efficiency.  Larger states have always brought with them a concern that the political influential areas would reap state largess while the less fortunate areas would be ignored.  As a result, demands for breaking up some of the larger states have simmered in the background since the reorganization of the states.

A decade ago the agitators for smaller states found some hope.  Uttarkhand and Jharkhand were carved out of the two most populous states in India.  Chattisgarh was carved out of the geographically largest state in India.  This brought the demand for Telangana to the forefront.  A Telugu speaking region merged into Andhra Pradesh, Telangana previously was part of the former princely state of Hyderabad.  While some of the princely states like Mysore, Baroda and Gwalior were relatively well administered, Hyderabad was not.  The region remained a resource poor economic and educational backwater.  Apart from the capital Hyderabad, a large portion of the province has felt ignored in favor of the more prosperous coastal regions of the state.  The argument was that a Telangana state would create with a more responsive local government which will boost regional development.

Unfortunately the  backing for the position is mixed.The North Indian states of Haryana and Punjab are often touted as examples of how a smaller state can benefit development.  The recent creation of Uttarkhand and Chattisgarh supply added support.  However, both Haryana and Punjab (and Western Uttar Pradesh) were the prime beneficiaries of the Green Revolution which brought prosperity to the local agricultural economies.  The various North Eastern states carved out of the once far larger state of Assam (Arunachal Pradesh, Meghalaya, Mizoram, Nagaland etc.) which did not get similar economic support and have limited local resources remain economic backwaters.  Also as the example of Jharkhand shows, a smaller state is not immune from a dysfunctional and corrupt political structure.  While in theory smaller states can imprve government responsiveness, they are not an administrative panacea.  Which brings us to the next issue and the heart of this article’s title.

The federal structure in India contains a potentially fatal flaw.

The flaw I refer to is not unknown and has been subject to some recent (and flawed) attempts to fix it. The issue was discussed in the Sarkaria Commission report in the 1980s.  Unfortunately, the commission essentially started with an excessive faith in the wisdom of the drafters of the Indian constitution and brushed aside this flaw.  The idealization of the wisdom of a nation’s founders is is hardly unique to India and is often visible in the United States.  Unfortunately it can create blinders in evaluating their decisions.

The flaw I allude to arises in Article 246 of the Indian Constitution which enumerates powers belonging to the national and government, state governments and concurrent powers in the Seventh Schedule to the constitution.  For items in the concurrent list, primacy is given to acts by the national government (a change after the partition of India).  Items 82-92 of List I of the Seventh Schedule grant the national government the exclusive right to levy among others, income taxes (on non-agricultural income), corporation taxes, property taxes and even taxes on the sale of newspapers and on advertisements posted therein (talk about micro-managing).  Items 45-63 provide the states with the exclusive right to tax a more limited source of revenue including agricultural income (which for political reasons no state has done), tariffs for the entry of goods into an area for consumption, tolls, taxes on non-newspaper advertising and intra-state sales taxes.

In micro-managing the powers of the national and state governments the drafters of the Indian constitution seemed to have overlooked the possibility of two different government entities taxing the same source of revenue or assets.  Worse, by permitting states to levy internal tariffs they perpetuated the economic policies of the British Raj that destroyed India’s domestic manufacturing.  While the United States abandoned tariffs between the states at its inception and the European Union understood the wisdom of abolishing them among its members, India still retains a tax structure designed to cripple manufacturing and the free flow of goods.

The flawed attempt to neatly divide out powers of the national and state governments resulted in the revenue sources made available to the state being insufficient to pay their expenses.  As a result the national government has to redistribute a portion of its takings to the states.  This creates two further problems.

First, states are now spending funds they do not have to raise. In a country full of irresponsible politicians it is an in invitation to populist profligacy.  So states start making dumb decisions like providing free electricity to farmers and other populist sops that they cannot afford.  As a result, even the most prosperous states generally teeter on the edge of insolvency.

Second, this opens up the Pandora’s box of just how revenue should be split among the states.  Should it go by population (where some of the most populous states contribute the least to the national kitty and which further encourages their irresponsibility).  Or, should it go to the states that actually generated the revenue (which causes heartburn in the poorer states).  All of which results in a delicate balancing act of which the attempt to create a national VAT system is the latest iteration.

As long as the Indian constitution encourages its states to suck off the national teat, its federal structure remains inherently flawed.  There is nothing wrong with some national assistance to states to remedy some inequities.  But the current set up is designed to encourage inefficiency and bad government.  As some states prosper faster than others and see the fruits of their labors distributed to others, it is bound to raise tensions within India’s federal structure.  At some point the states need to be cut loose and made to bear the costs of their fiscal irresponsibility.  With the increasing mobility of labor across India it may be the only way to force laggards like Bihar out of their corrupt fedual  backwaters.

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