Tuesday, February 8, 2011

Federalism and Fiscal Reform in India

NIPFP Working Paper 84

M. Govinda Rao and Tapas K. Sen
February 2011


This paper attempts to analyse the experience of incentivising economic reforms at the state level through central transfers to states. It reviews the experiences of the central government introducing incentives for reform directly through various specific purpose transfers as well as the incentive schemes recommended by various Finance Commissions. The incentive schemes directly introduced by the central government include, accelerated irrigation benefit programme, accelerated power development and reform programme, Jawaharlal Nehru Urban Renewal Mission, education and health sector reforms. The reforms recommended by the Finance Commissions include incentivising tax reforms and fiscal restructuring and consolidation.

The review of the experiences of Indian fiscal federalism shows that the incentivising reforms have neither been an unqualified success nor have they been a total failure. There are interesting lessons to be learnt from the experiences for both designing the incentive schemes and implementing them. The paper summarises the lessons of experience. While incorporating these in designing and implementing incentive schemes can be useful in the short and medium term, what matters in the long run is the political incentive for reforms.