In an effort to support capital spending and ensure states are adequately funded for upcoming festive season expenditures, the Indian government has released US$ 21.20 billion (Rs. 1.78 trillion) to the states as part of the tax devolution process. This amount includes an advance installment of US$ 10.61 billion (Rs. 89,086.50 crore), which was disbursed in addition to the regular installment scheduled for October 2024, according to the Ministry of Finance.

The government’s decision to provide an advance installment is aimed at empowering states to enhance capital spending during the festive season, which typically sees an uptick in development-related activities. This initiative ensures that states have the necessary funds to continue key welfare-related expenditures and drive infrastructure growth, further boosting the economy in this critical period.

Breakdown of Devolution to States:

The state-wise breakdown of the devolution reveals that Uttar Pradesh received the largest share, with over US$ 3.69 billion (Rs. 31,000 crore) allocated for the state. This was followed by Madhya Pradesh and West Bengal, receiving US$ 1.67 billion (Rs. 13,987 crore) and US$ 1.60 billion (Rs. 13,404 crore), respectively. These funds are expected to fuel capital expenditure in various sectors, including infrastructure development, social welfare schemes, and job creation efforts.

States like Uttar Pradesh, which traditionally require large allocations due to their population size and developmental needs, will likely use these funds to enhance infrastructure projects and other welfare programs that contribute to economic growth. Similarly, Madhya Pradesh and West Bengal will focus on strategic areas to leverage the funds for boosting their regional economies.

Fiscal Strategy for FY25:

Looking ahead, provisional estimates for FY24 suggest that states will maintain a 32.6% share of central taxes, which marks a continuation of the government's strategy to support state-level growth while managing its central fiscal priorities. In absolute terms, the budget estimate for FY25 reveals a planned increase in the total amount devolved to states, rising from US$ 134.59 billion (Rs. 11.3 trillion) in FY24 to US$ 148.88 billion (Rs. 12.5 trillion) in FY25. This increase reflects the central government's commitment to ensuring that states have ample resources to meet their developmental and welfare objectives.

Devolution Norms and Concerns:

Funds from the divisible tax pool are allocated to states in 14 annual installments, with 11 installments provided during the first 11 months of the fiscal year and the remaining 3 installments disbursed in March. This structured approach ensures that states receive their share of tax revenues in a timely manner, allowing for better fiscal planning and implementation of projects.

However, despite this structured release, states have expressed concerns about the lower share of central taxes compared to the 15th Finance Commission's recommendations. The Finance Commission had recommended a 41% devolution of central taxes to the states, but the actual devolution has been lower, standing at approximately 32.5% for FY25. This disparity is largely attributed to the cesses and surcharges imposed by the central government, which are not shared with the states. States argue that the increasing reliance on these non-divisible revenue sources by the Centre has reduced the pool of funds available for devolution, thereby affecting their ability to finance critical development projects and social programs.

Impact of Cess and Surcharges:

The use of cesses and surcharges by the central government has been a contentious issue, as these funds are retained exclusively by the Centre and are not distributed to states. This has led to a significant reduction in the overall divisible tax pool, effectively lowering the amount that states receive through the devolution process. Many states have raised this issue with the Centre, emphasizing that the shortfall in devolution impacts their ability to plan long-term development projects, particularly in sectors such as education, healthcare, infrastructure, and social welfare.

The ongoing tension between the states and the central government over this issue underscores the need for a more balanced approach to revenue sharing, one that takes into account the financial needs of both the Centre and the states. Addressing this concern will be critical for maintaining the fiscal health of states, particularly those that rely heavily on central transfers to fund their budgets.

Moving Forward:

The Indian government’s decision to release US$ 21.20 billion to states as part of the tax devolution process, along with an advance installment, highlights its commitment to supporting state-level growth and ensuring that states are well-funded during the festive season. This move is expected to boost capital spending, create jobs, and drive economic activity across the country, particularly in states like Uttar Pradesh, Madhya Pradesh, and West Bengal.

While the immediate fiscal outlook for states is positive, there are still ongoing concerns about the lower-than-recommended share of central taxes being devolved to states. As the government prepares for FY25, it will be important to address these concerns and ensure that states have the necessary resources to meet their developmental goals.

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