Workshop Report 23 - Institute of Rural Management Anand · PDF fileSFCs, and other ... PRI : Panchayati Raj Institution SFC : State Finance Commission SGSY : Swaranjayanti Gram Swarojgar

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Workshop Report 23

Issues Before the Finance Commission: Empowering the Panchayati Raj Institutions (PRIs)

(Report of the Conference Organised during December 22–23, 2008 at IRMA, Anand, Gujarat)

H. S. Shylendra S. S. Rajput

Institute of Rural Management, Anand-388 001, India

July 2009

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Copyright ©2009 Institute of Rural Management, Anand (IRMA).

All rights reserved. Except for purposes of quotations, criticism and review, no part of this publication may be reproduced, stored in retrieval systems, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without prior permission of IRMA.

The opinions expressed in this publication are authors’ own and not necessarily those of IRMA or any other organisations mentioned in this report. Published by: Institute of Rural Management Anand

Post Box No. 60 Anand – 388001 Gujarat, India Phones: (02692) 263260, 260391, 260246, 260181 Fax: (02692) 260188 Gram: IRMA, Anand Email: [email protected] Website: www.irma.ac.in

Printed at: Anand Press, Gamdi, Anand Price: Rs.▄▄

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CONTENTS

Acknowledgements........................................................................................................iv List of abbreviations........................................................................................................v Abstract.........................................................................................................................vii 1.0 INTRODUCTION............................................................................................1

2.0 REVIEW OF THE APPROACH AND RECOMMENDATIONS OF THE PREVIOUS FINANCE COMMISSIONS..............................................3

3.0

FINANCIAL DEVOLUTION TO PRIs AND INCENTIVISING STATES..........................................................................................................13

4.0

ISSUES CONCERNING BROADER DECENTRALISATION...................18

5.0 CAPACITY BUILDING, AND ACCOUNTING AND AUDITING PRACTICES OF PRIs....................................................................................24

6.0 ANALYSIS OF THE CONSTITUTIONAL ASYMMETRY IN DEVOLUTION BETWEEN THE CENTRE AND THE STATES, AND BETWEEN THE STATES AND LOCAL BODIES..........................30

7.0

FINANCIAL AND FUNCTIONAL DEVOLUTION OF URBAN LOCAL BODIES............................................................................................36

8.0

WORKING OF THE STATE FINANCE COMMISSIONS..........................43

8.1 Sharing by SFC Representatives..........................................................45

9.0 CONCLUSION: LESSONS FOR THE 13th FINANCE COMMISSION...............................................................................................52

9.1 Summary of Major Recommendations................................................55

Annexure-1: Conference Schedule...............................................................................61

Annexure-2: List of Participants..................................................................................64

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ACKNOWLEDGEMENTS

The present report presents a summary of the proceedings, including the recommendations made, of the Conference on Issues before the Finance Commission: Empowering the Panchayati Raj Institutions (PRIs), organised by the Institute of Rural Management Anand (IRMA) during December 22–23, 2008 for the 13th Finance Commission. The report complements the volume of papers presented at the conference.

We are grateful to many people for their immense contribution and help in organising the conference successfully and in bringing out this report. First of all, we thank the people at the 13th Finance Commission for giving us an opportunity to organise this conference. We are grateful to Shri Vijay Kelkar, Chairman of the 13th Finance Commission, who inaugurated the conference, and to Prof. Atul Sarma (Member) and Prof. Indira Rajaraman (Member) for their active participation and encouragement. Our thanks are also due to Prof. Y. K. Alagh, Chairman, IRMA for his constant guidance and for delivering an insightful keynote address. We express our sincere thanks to all the members of the Steering Committee—Shri Sumit Bose, Secretary, 13th Finance Commission, Shri V. Bhaskar, Joint Secretary, 13th Finance Commission, Prof. S. K. Singh of National Institute of Rural Development (NIRD), Prof. Abhay Pethe of Mumbai University, and Dr. Laveesh Bhandari of Indicus Analytics for their guidance. We are also thankful to Shri P. K. Verma, Director, and Shri B. Swain, Assistant Director of the 13th Finance Commission, for their support.

All the authors of the papers presented, the chairmen and representatives of various SFCs, and other participants have made invaluable contributions to making this conference a success. Despite their busy schedule, they accepted our invitation to participate in the conference at short notice. We thank all of them for their help. Thanks are also due to the chairmen of various technical sessions, discussants, and rapporteurs (G. Koppa, P. K. Mishra, Smriti Das, Saikrishna, Yeshwant, and S. S. Rajput), who captured the discussions for the summary report. Lastly, we acknowledge with sincere thanks the help extended in a variety of ways during the conference by Ms Rani Jayapalan and various other people at IRMA (in the Programme office, Estate, Accounts, Executive Training and Development Centre (ETDC) Reception, Teaching Aids Unit (TAU), Computers, and Transport).

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LIST OF ABBREVIATIONS

ATR : Action Taken Report BPL : Below Poverty Line

CAG : Comptroller and Auditor General of India

CBO : Community-based Organisation

CFC : Central Finance Commission

DCI : Decentralisation Index

DLFA : Director of Local Fund Audit

EFC : Eleventh Finance Commission

GDP : Gross Domestic Product

GOI : Government of India

GP : Gram Panchayat

ICT : Information and Communication Technology

IRMA : Institute of Rural Management Anand

JFM : Joint Forest Management

JNNURM : Jawaharlal Nehru National Urban Renewal Mission

KILA : Kerala Institute of Local Administration

LB : Local Body

LLGRB : Local-level Gender Responsive Budgeting

LSG : Local Self-government

MDM : Mid Day Meal

MIS : Management Information System

NGO : Non-governmental Organisation

NIC : National Informatics Centre

NREGA : National Rural Employment Guarantee Act

OSR : Own Source Revenue

PESA : Panchayats (Extension to the Scheduled Areas) Act, 1996

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PHC : Primary Health Centre

PPP : Public Private Partnership

PRI : Panchayati Raj Institution

SFC : State Finance Commission

SGSY : Swaranjayanti Gram Swarojgar Yojana

SHG : Self-help Group

SSA : Sarva Shiksha Abhiyan

TGS : Technical Guidance and Support

TOR : Terms of Reference

ULB : Urban Local Body

VEC : Village Education Committee

YASHADA : Yeshwantrao Chavan Academy of Development Administration

ZP : Zilla Panchayat/Parishad

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ISSUES BEFORE THE FINANCE COMMISSION: EMPOWERING THE PANCHAYATI RAJ INSTITUTIONS (PRIs)

H. S. Shylendra*and S. S.Rajput1

The conference proceedings brought out the fact that the approach of the earlier Finance Commissions in dealing with local governments has been largely adhocist which is based on incorrect assumptions about treating decentralisation as a zero-sum game. The local bodies (LBs) find themselves severely constrained by the inadequacy in the devolution mechanism, leading to poor governance and unsatisfactory service delivery. It was strongly felt that the 13th Finance Commission needs to adopt a bolder approach in restructuring the federal public finance architecture in the country by

Abstract

This report presents a summary of the proceedings of the conference on Issues before the Finance Commission: Empowering Panchayati Raj Institutions (PRIs) organised during December 22–23, 2008 at the Institute of Rural Management Anand (IRMA). The conference participants deliberated on issues concerning fiscal devolution to PRIs as relevant for addressing the Terms of Reference (TOR) given to the 13th Finance Commission, viz. the measures needed to augment the Consolidated Fund of a state to supplement the resources of the panchayats and municipalities in the state on the basis of recommendations made by the Finance Commission of the state. The conference reviewed the experiences and lessons learned, and sought to identify ways and strategies that could help in arriving at an effective mechanism for financial devolution to PRIs and municipalities.

The major themes covered at the conference included: (a) Review of the Approaches and Recommendations of the Previous Finance Commissions; (b) Financial Devolution to PRIs and Incentivising States; (c) Issues Concerning Broader Decentralisation; (d) Capacity Building and Accounting and Auditing Practices of PRIs; (e) Analysis of the Constitutional Asymmetry in Devolution between Centre and State, and between State and Local Bodies; (f) Financial and Functional Devolution of Urban Local Bodies; and (g) Working of State Finance Commissions (SFCs).

*Professor, Institute of Rural Management, Anand - 388 001,Gujarat, India. Email: [email protected] 1Research Associate, Institute of Rural Management, Anand - 388 001, Gujarat, India. Email: [email protected]

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taking into account the presence of the third tier and its needs. A separate fiscal domain could be worked out for the third tier by adopting an empowerment approach.

It was pointed out that the response from state governments in devolving financial powers to PRIs has been varied. The states, in general, have failed to develop an own fiscal domain of PRIs. Many of the transfers to PRIs are also conditional, and even internal mobilisation of resources by PRIs has many constraints. It was also argued at the conference that the problem of inadequate financial devolution is related to the problem of inadequate devolution of functions and functionaries to PRIs. Apart from incentives, the other measures identified for empowering PRIs were strengthening the capacity of PRIs for revenue mobilisation and creating a clear-cut domain for tax and non-tax revenues. The conference also brought into focus the growing challenges of urban local bodies (ULBs). The states and the SFCs have dealt with ULBs inadequately, resulting in continued poor urban governance. The papers called for more proactive measures for strengthening the financial position of ULBs through alternative and innovative mechanisms.

With increased financial devolution, the need for building the capacities of PRIs for better financial management and accountability has become more pronounced. The conference critically examined issues with regard to capacity building of PRIs. It was pointed out that the capacities at various levels of PRIs are inadequate. Focused capacity-building efforts like training and hiring additional staff were suggested for improving the capabilities of PRIs.

About the possibility of devolving funds to PRIs from the Centre more directly and the need for constitutional amendments for easing the prevailing constraints, the papers, in general, highlighted the futility and undesirability of such measures. It was felt that LBs have already been given clear roles and responsibilities under the present Constitution and that further steps need to be taken to strengthen these.

With regard to the role of SFCs, the deliberations during the conference clearly identified the constraints being faced by SFCs, including the treatment meted out to them by the state governments. It was pointed out that the state governments have not shown the seriousness required for dealing with a constitutional institution like SFC to make it function effectively. Even in cases where SFCs have come up with useful recommendations, the states have shown a general indifference in accepting and implementing these measures. The conference participants made several suggestions for strengthening SFCs, including the use of a template for improving the quality of reports by SFCs and the creation of an SFC cell in each state that could streamline and monitor the database.

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ISSUES BEFORE THE FINANCE COMMISSION:

EMPOWERING THE PANCHAYATI RAJ INSTITUTIONS (PRIs)

1.0 INTRODUCTION

The Institute of Rural Management Anand (IRMA), at the request of the 13th Finance Commission, organised a two-day conference on the theme ‘Issues before the Finance Commission: Empowering Panchayati Raj Institutions (PRIs)’ during December 22–23, 2008 at Anand, Gujarat. The conference deliberated on the issues of fiscal devolution to PRIs and the creation of devolution systems from the centre and the states to the panchayats (see Annexure 1). More specifically, the conference focused on issues pertaining and relevant to the TOR given to the 13th Finance Commission, viz. measures for augmenting the Consolidated Fund of a state to supplement the resources of panchayats and municipalities in the state on the basis of recommendations made by the Finance Commission of the state. The conference reviewed the experiences and progress made so far, and identified ways and means of arriving at an effective financial devolution mechanism to PRIs and municipalities as per the TOR.

The chairman and members of the 13th Finance Commission, scholars and experts working in the field of financial decentralisation to PRIs, and representatives from SFCs participated in the conference (see Annexure 2).

Dr. Vivek Bhandari, Director, IRMA welcomed the participants and thanked the 13th Finance Commission authorities for giving an opportunity to IRMA to organise the conference.

Shri Vijay Kelkar, Chairman of the 13th Finance Commission addressed the inaugural session of the conference. He highlighted the recommendations of the 11th and 12th Finance Commissions and stressed the need for following up on these, including issues such as the sharing of taxes and grants to support the states. He said that as there was lack of understanding on the working of the earlier approaches, the conference could bring together the experiences pertaining to the past recommendations and ascertain how these have enabled

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or constrained the functioning of the Finance Commissions. He called for strengthening the resource bases of the states and PRIs and bringing predictability to the system, which may even require constitutional amendments. Shri Kelkar stressed the need for developing an accounting system for PRIs for better mapping of resources, a template for SFCs, and a devolution index. He said he looked forward to the outcome of the conference in the form of specific recommendations on ways of strengthening the resource bases of the states and PRIs.

Against the backdrop of earlier studies on devolution and the restructuring of public finance, Dr. Y. K. Alagh in his remarks raised the larger question of designing and reforming institutions and examining how they relate to the development objectives of the 11th Five Year Plan. Emphasising the need for details, Dr. Alagh said he appreciated that the latest Five Year Plan, which looked at institutional details in the form of incentives and disincentives for the third system and which blended central initiatives with local initiatives. Dr. Alagh expressed dissatisfaction over the conditionalities imposed on the states by the centre. He said that the centrally sponsored schemes are still operating in a straightjacket mode, without enough understanding of local issues and needs. Community-based organisations (CBOs) and cooperatives need greater attention now. The midterm review of the 10th Five Year Plan says that there are severe land and water problems and hence growth rates have been constrained. The central government projects can address such issues. Even agriculture and social infrastructure remain important issues, and hence incentives are needed for those who address these problems. IRMA’s report on PRIs in its analysis of villages that are doing well shows that elasticity of own resources to local GDP is 1.45. PRIs will be meeting a large part of their expenditure from their own resources very soon. Dr. Alagh called for a move towards district planning, which requires building village-level databases. The decentralisation scheme, which is built around the centrally sponsored schemes, is not in accordance with the recommendations of the Planning Commission. Dr. Alagh emphasised the need to move away from centrally sponsored schemes and stressed the need for mobilising resources by PRIs for development through best practices.

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This report presents a summary of the conference proceedings along with recommendations to the 13th Finance Commission. The summary consists of the major findings of the papers presented, issues raised, and the action points made. These are presented for each of the major themes identified for the conference. 2.0 REVIEW OF THE APPROACH AND RECOMMENDATIONS

OF THE PREVIOUS FINANCE COMMISSIONS The session reviewed the approach, methodology, and recommendations of the previous Finance Commissions, beginning with the 10th Finance Commission, relating to PRIs and LBs. The previous Finance Commissions, especially the 11th and 12th Finance Commissions, had made a number of recommendations, including the adoption of best practices. The session reviewed the progress made so far in furthering the devolution process and identified the steps necessary for moving forward. The session was chaired by Shri Vijay Kelkar. The papers presented on the theme mainly argued that the approach of the earlier Finance Commissions had been largely adhocist and were based on incorrect assumptions that treated decentralisation as a zero-sum game. LBs are severely constrained in their functioning by the inadequacy of the devolution system, leading to poor governance and unsatisfactory service delivery. The papers argued that the 13th Finance Commission needs to adopt a bolder approach towards restructuring the federal public finance architecture in the country by taking into account the presence of the third tier of governance and its needs. A separate fiscal domain should be carved out for the third tier by following an empowerment approach. The main findings and recommendations made in the papers presented on the theme are given below. Shri S. M. Vijayanand in his paper ‘Strengthening Local Governments: Possible Role of the 13th Finance Commission’ argued that PRIs are not well endowed to play their constitutionally mandated roles. Under the existing constitutional provisions, the states have a major role in deciding the own fiscal

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domain of local governments. Nevertheless, the central government plays an important role too, which is best exercised through fiscal transfers and incentives. Beginning with the 10th Finance Commission, efforts have been made by CFCs to augment the resources of local governments. The Finance Commissions so far have gone largely by the incorrect assumption that decentralisation is fiscally neutral and does not entail any extra financial burden on the state, and that there is no need to transfer resources from the centre to the states in view of decentralisation. As a result, the Finance Commissions have failed to use the opportunity for strengthening fiscal federalism involving the third tier of governance. The potential for achieving efficiency gains from decentralisation has not been appreciated as the Finance Commissions have viewed decentralisation as a zero-sum game. The Finance Commissions have not attempted to identify the additional staffing requirements of PRIs nor have they succeeded in identifying what constitutes good decentralisation. They have also ignored the potential for incentivising states to decentralise, thereby following the ad hoc grant-in-aid route rather than adopting the resource-sharing approach. The experience of Kerala proves that the basic assumption of the earlier Finance Commissions—that decentralisation does not entail additional costs—has not been validated. Shri Vijayanand suggested that the 13th Finance Commission may give a fillip to the decentralisation initiatives by providing a clear understanding of decentralisation and by rewarding states for adopting greater devolution. The imbalance in the vertical fiscal capacities of the three levels of government needs to be clearly recognised. The vast differences in the levels of decentralisation need to be analysed carefully at the level of each state individually. In doing so, the 13th Finance Commission may have to go beyond the reports of SFCs. The major recommendations for strengthening local governments as made by Shri Vijayanand are given below:

1. The 13th Finance Commission should identify the probable own fiscal domain—tax and non-tax—for different types of local governments.

2. As the contribution of local governments to public expenditure is still low (5 - 6 per cent), the Finance Commission should set a target for

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enhancing the share of local government expenditures to 15 to 20 per cent in the short run.

3. The Finance Commission should evolve a realistic decentralisation

index, capturing praxis rather than intentions. It may be prudent to limit the index to two criteria, viz. the share of investable funds devolved to local governments and the share of own funds as a percentage of own resources of the state government, relying on verifiable accounts.

4. The Finance Commission should recommend the operationalisation of

the recommendations of the 11th Finance Commission to enhance the ceiling on professional tax and also recommend the taxing of central government properties.

5. Substantial and meaningful incentives should be given to move the

states further along the path of decentralisation. This would include measures such as linking the release of assistance under centrally sponsored schemes to decentralisation efforts and setting aside at least 5 per cent of the divisible pool for being transferred to the states for passing on to local governments. This should be over and above the divisible pool to be set aside for the state governments. This additionality should be devolved on the basis of a transparent formula, which could contain considerable weightage (25 per cent) for the decentralisation index. The decentralisation index should be factored into the formula for devolution to the states as well, from the general divisible pool. Further, in transfers for maintenance of assets, a special stream should be introduced for the assets under the control of local governments, on a normative basis. There also should be special grants under Article 275 (1) given to good performers in the area of decentralisation. The central government should also pass on other incentives to states, such as enhancing the borrowing limits, writing off a portion of the state’s debts, and giving substantial interest concessions on loans taken under certain schemes provided they are transferred to the local governments in a substantial manner. While providing incentives, care should be taken at the macroeconomic level to avoid major imbalances.

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Dr. V. N. Alok in his paper ‘Devolution of Resources to Local Governments: Role of the 13th Finance Commission’ assessed the potential of the corrective measures that the Central Finance Commission could take for building the fiscal capacity of local governments in India. He argued that a considerable gap between own resources and requirements of LBs exists. To achieve inclusive growth, it is important to have inclusive governance by restructuring the fiscal architecture for PRIs and ULBs in a more equitable and efficient manner. The task of restructuring public finance substantially depends on streamlining the multiple channels of resource flows from the central government to the local governments through the states. The limited financial space available to the states and the perceived low capacity of PRIs and ULBs have prevented the states from strengthening these institutions. The 13th Finance Commission is responsible for devolving adequate funds to PRIs and ULBs. So far, three CFCs have considered the issue and made their recommendations. All the three commissions recommended grants-in-aid of an ad hoc nature, mainly for operation and maintenance purposes, and not in the form of specific grants. Until December 2008, the states had utilised 68 per cent of the grants of PRIs and 73 per cent of the grants of urban bodies, as recommended by the 12th Finance Commission. Dr. Alok argued that the ad hoc grants of a token nature given by the earlier CFCs now need to be replaced by a regular transfer arrangement. The role of the 13th Finance Commission now is to act as a path breaker by creating an enabling environment for fiscal decentralisation at the sub-state level. This could be done through fiscal capacity equalisation by accepting that fiscal decentralisation is not a zero-sum game as costs increases are an inherent feature of PRIs. The 13th Finance Commission may, therefore, realistically assess the costs of the creation of a third tier and compensate it adequately. Nothing precludes the 13th Finance Commission from earmarking a share of central revenues for PRIs and ULBs, suggesting that it should be given into the Consolidated Fund of a state for the express purpose of supplementing the funds of PRIs and ULBs. It is safe to suggest that local governments should also be considered for receiving a share from the central divisible pool along with the states. This should be over and above the fiscal devolution recommended to the states for correcting the vertical imbalance. Such a scheme will have several merits, including enabling local governments to share the buoyancy of central taxes, and it does not require a constitutional

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amendment. Considering the merits of tax sharing, the 13th Finance Commission could recommend 5 per cent and 3 per cent of the divisible pool of the central government to PRIs and ULBs respectively. The horizontal distribution of the above fiscal transfer among the states should be based on a few simple parameters. There may not be a need to have a separate formula for the inter se distribution of the funds of PRIs and ULBs among the states. However, the formula must assign appropriate weight to the progress made in regard to functional, financial, and administrative decentralisation based on a devolution index as suggested in the paper. Since the fiscal transfer from the CFC is ordained for revenue expenditure, the 13th Finance Commission could suggest that SFCs should make inter se distribution among PRIs and ULBs within the state. A permanent SFC cell in each state for continually monitoring local government finances should be recommended. Shri Samar Ray in his paper ‘Capacity Building, Accounting Practices, Computerisation, Data on Own Revenue and Expenditure, Pitfalls and Way Forward’ shared the findings of the audit of the 12th Finance Commission grants. The 12th Finance Commission recommended grants amounting to Rs.25,000 crore for the period 2005–2010 to LBs to improve services in respect of water supply and sanitation in PRIs and solid waste management in ULBs, apart from maintenance of accounts and creation of databases. As per the Ministry of Finance’s guidelines, the Comptroller and Auditor General of India (CAG) was requested to audit the release and use of these grants. The CAG audit reveals delays and irregularities. By October 2008, seven instalments of the 13th Finance Commission grants were due to all 28 states. So far, only seven states have received the seven instalments. Non-release of grants was due to non-submission of utilisation certificates/no requests from the state governments. Progress is being monitored by a Committee of MoPR (Ministry of Panchayati Raj). The states are found to be not very keen on transferring funds, functions, and functionaries as laid down in the Constitution.

Prof. M. A. Oommen in his paper ‘A Conceptual Framework for Fiscal Decentralisation to Sub-state-level Governments’ argued that decentralisation should be seen as a process of the empowerment of the people through the empowerment of local governments. Giving greater responsibilities, including

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wider revenue-raising responsibilities, is a necessary condition of the empowerment process. The panchayats should be given a respectable place in the scheme of Indian public finance and planning. They cannot raise adequate resources to meet their responsibilities, and hence transfer of resources is inevitable. The real challenge is to make the sub-state transfers, and the mechanisms designed for them, truly rational in terms of efficiency, equity, predictability, transparency, and adequacy. Prof. Oommen argued in his presentation that Kerala, which attempted devolution under the ‘big bang’ approach, offers a major lesson for the fiscal empowerment of PRIs. Reviewing the earlier approaches, Prof. Oommen emphasised that the received wisdom on fiscal decentralisation treats the relations between the local government and the local community as those of a patron–client rather than those of a state–citizen. What is required is identifying objectives critical to a devolution package, such as reducing vertical and horizontal imbalances and equalising financial capabilities and basic service levels at the GP level. At the sub-state level, a comprehensive devolution package is missing. SFCs and CFCs together have failed to alter substantially the fiscal landscape at the sub-state level. The 11th and 12th Finance Commissions have failed to recognise the organic link between the union, state, and local governments. They have not gone deep into the idea or process of decentralisation across the various states. The 13th Finance Commission needs to examine the possibility of taking local governments into account in its analytical framework of Indian public finance. The best way of augmenting the consolidated fund of a state is to supplement the resources of panchayats and municipalities and to earmark a respectable share of the central tax revenue for LBs. The inter se share for the states can be worked out through a devolution index that measures the real magnitude of functional, financial, and administrative devolution. The formula for the distribution of the share within a state should be left to the SFC of that particular state. In order to ensure quality of services, the 13th Finance Commission should create an Asset Renewal Fund.

Dr. Lekha S. Chakraborty in her paper ‘Determining Gender Equity in a Federal Setting: Analytical Issues before the 13th Finance Commission’

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examined the plausibility of incorporating gender considerations into financial devolution. There is no direct attempt so far to incorporate gender concerns into intergovernmental fiscal relations in India given the asymmetries in the assignment of functions and finance. It would be useful to incorporate gender issues into specific-purpose transfers rather than into general-purpose transfers, although ideally the transfer system for gender equity should have a judicious mix of both transfers. The role of fiscal policy in ushering in gender-sensitive human development becomes important. Gender budgeting can be a useful mechanism for addressing such goals. Integrating the gender perspective into budgetary policy has the dual purpose of promoting equality and efficiency. Given that a major chunk of resources at the local level is made available through financial devolution, unless the devolution formula is gender sensitive, gender-budgeting experiments cannot go far. In many ways, the Finance Commission’s formula-based fiscal transfers are not part of an equalisation grant system, but rather part of general or unconditional funding, which might have features of the equalisation grant system. The moot question is whether gender criteria need to be incorporated into unconditional fiscal transfers. One of the arguments against incorporating gender concerns into unconditional fiscal transfers is that these transfers are meant for offsetting fiscal disabilities, and hence it is desirable to keep the transfer system formula simple and without perverse incentives. However, in India, given the disturbing demographic facts of the precipitous decline in the sex ratio of children in the 0–6 age group, especially in some of the prosperous states of the country, there can be no valid objection to using central transfers for this purpose. A simple method for achieving this would be to introduce some weight for the female population, especially the number of females in the 0–6 age group in the states, in the tax devolution formula of the Finance Commission and in the Gadgil formula for the allocation of central assistance for state plans. While social mores cannot be changed by fiscal fiat, state action is called for when they are blatantly oppressive. The transfer system can and should play a role in upholding the right to life of the females of the country. Having said that, it needs to be mentioned that it is not plausible to incorporate more gender variables and thus complicate the transfer formula of the Finance Commission. The inclusion of a gender inequality index may not result in the

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intended results as the variables included in the index may neutralise each other. Hence, Dr. Chakraborty argued, the right thing to do, even from the gender perspective, is first to make fiscal transfers based on a per capita basis, which would be much more even and fiscally equalising, and then to make suitable adjustments for backwardness. Given the magnitude of missing women in India and the disturbing practices of gender discrimination that exist even before birth, a penalty criterion needs to be incorporated into the unconditional fiscal transfers for not rewarding the states with adverse juvenile sex ratios. This would be only the second-best principle for making fiscal policy. The new-found policy space of the feminisation of local governance coupled with an engendered fiscal devolution to the third tier can also make variations in public expenditure decisions correspond more to the revealed preferences of women. The policy space is more conducive at the local level for conducting local-level gender responsive budgeting (LLGRB). Fiscal policy can redress intra-household inequalities in terms of household division of labour by supporting initiatives that reduce the time that women spend performing unpaid work. It is high time that we recognised that time poverty affects income poverty, and that gender-sensitive fiscal devolution to the local level could lessen the time poverty of women in rural areas. Given that the major share of revenue for LBs in India is still financial devolution, the 13th Finance Commission should assign transfers to the states that have already initiated LLGRB. Discussion: Dr. Abhay Pethe discussed a number of points and argued that the problems basically are not of a conceptual nature, but need more practical attention. The time is opportune for the 13th Finance Commission to do something effective and significant without being incremental. Large quantities of funds have to be devolved, which means the need for fair and effective devolution. SFCs do not seem to work uniformly and thus have to learn from good practices, including developing a template. The 13th Finance Commission needs to find a way of talking directly to the third tier. Regarding the devolution formula, Dr. Pethe said that the main problems were lack of data and insufficient time for developing the formula. This requires establishing information warehouses more in the form of virtual entities with needed

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databases. The state governments have to be given more space in matters of devolution. The decentralisation criteria have to be simple, with a focus on the revenue efforts of the state. Just giving funds to the panchayat is not enough; they need adequate revenue handles to have a flow of taxes. Capital market access could be provided through the adoption of a consortium approach by keeping small funds for incentive building. The focus should be more on assets and not on equalisation. The Finance Commission should focus on maintaining the available assets. Capacity constraints should not be allowed to come in the way of devolution. Decentralisation should not be treated as a zero-sum game. States should be allowed to take decisions on the urban–rural ratio of allocation. Part of the devolution share should be set aside for the third tier, legally if necessary. Some of the questions raised on the papers presented during the session related to the recommendations to incentivise decentralisation. Erecting a new fiscal infrastructure, as suggested, would require certain building blocks. If funds were to be transferred from the centre to LBs under the new fiscal infrastructure, the quantum of transfer that would be specified necessarily has to be based on some initial numbers. The biggest problem would be determining those initial numbers. If there is funds flow directly from the centre to LBs bypassing the states, the question of inter-district allocation will automatically arise, which has to be suitably addressed. With the kind of formula suggested by Shri Vijayanand, the question of the state and district shares will rise again. Can CAG’s office provide the required data for the purpose? Further, how should the state share and the rural–urban share be decided? As objective conditions in Kerala differ from those in other states, and supposing the 13th Finance Commission devolves a part of the funds, will this step be a disincentive for the other states? The authors clarified that the initial number for the new structure has to be normative, which can be built up further by subsequent Finance Commissions. However, it cannot be arrived at on an empirical basis. The transfers should be routed through the state governments on a pass-through basis. But the quantum has to be enhanced based on objective conditions. Better governance could take place over a period of time. The variation in decentralisation across the states should be addressed by a process of learning by doing while

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simultaneously incentivising the states. For transfers, equalisation of services should be replaced by capacity equalisation. Districts are important and have to be kept in mind while devolving funds. The district as a unit of local governance is not constitutional. Hence while discussing the transfer options based on the district as a unit, one should be careful about the operationalisation of any such option and its ramifications. Shri Vijay Kelkar, who chaired the session, concluded with the following points. Increased decentralisation leads to higher efficiency, as shown by the case of Kerala. This can be used as a criterion. A roadmap for determining the size of the third tier needs to be prepared; ideas are needed for the same. How does one ensure that the Sixth Schedule areas get funds? The formula for sharing, although it may be arbitrary, needs careful consideration in working out the numbers. There is a need for a shift from grants to a revenue-sharing model, and also a need for exploring the possibility of handling the problems of parallel bodies at the panchayat level. 3.0 FINANCIAL DEVOLUTION TO PRIs AND INCENTIVISING

STATES The following questions have been identified for discussion under this conference theme. How should the state governments be incentivised to come up with effective devolution measures to strengthen and empower PRIs, both financially and otherwise? What lessons can be learnt from the existing literature and best practices on PRI devolution, resource mobilisation, user charges, and identification of key parameters that will promote the effective implementation of the 73rd Amendment? What are the different or alternative ways of augmenting the finances of PRIs besides grant funding? Can LBs be enabled to resort to mobilising debt through innovative instruments for capital expenses? Prof. Atul Sarma chaired the session. The discussion brought out the following issues pertaining to financial devolution to PRIs by the states. The states have shown varied responses in devolving financial powers to PRIs. While Kerala has followed a ‘big bang’ approach to devolution, others have shown laxity. Although the revenues of PRIs have been increasing in absolute and relative

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terms, PRIs are unable to raise their revenue and expenditure to the expected levels. The states have not made any significant attempts to develop the own fiscal domain of PRIs despite many recommendations to this effect by SFCs. Even in receiving devolved funds, PRIs have faced many uncertainties. Many of the transfers are conditional. PRIs have also faced constraints in the internal mobilisation of resources. Absence of administrative support and lack of willingness to mobilise tax revenue have been identified as two constraints. The problem of inadequate financial devolution is also related to the problem of inadequate devolution of functions and functionaries. In addition to incentives, strengthening the PRIs’ capacity for revenue mobilisation and creating a clear-cut domain for tax and non-tax revenues are among the measures identified by the paper presenters, who also emphasised the need for enhancing transfers to PRIs more on an entitlement basis. The main findings of the various papers presented at the conference are presented below. Prof. M. A. Oommen in his paper ‘Conceptual Framework for Fiscal Decentralisation to Sub-State-Level Governments’, based on the example of Kerala, argued that PRIs at the three levels have to be given autonomy on all three dimensions that are germane to decentralised governance, viz. functional autonomy, fiscal autonomy, and administrative autonomy. Kerala has attempted an almost simultaneous transfer under all three dimensions under a ‘big bang’ approach to devolution. In terms of functional devolution, Kerala has assigned all major responsibilities to PRIs on the principles of subsidiarity, role clarity, and complementarity. Activity mapping in Kerala is an operational reality, which has taken the form more of responsibility mapping, detailing the operational division of labour between the different tiers. Institutions relevant to most of the devolved functions—such as public health centres, hospitals, schools, krishi bhavans, veterinary institutions, and ICDS—are transferred to the relevant tier of the panchayat in an ‘as is where is condition’. In terms of financial devolution, Kerala has created history by making the momentous decision in mid-1996 to devolve 35–40 per cent of state plan funds to LBs on the basis of a formula. Although this order of devolution has not happened, 30 per cent has been the general pattern. Fund allocation to each LB

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by name is a unique innovation that ensures considerable autonomy, transparency, and predictability. The increase in funds to PRIs is the result of the decision to devolve a part of the Plan grants to them. More than 60 per cent of the total release was because of Plan grants. The total release, which was 14 per cent of the state’s own revenue in 1996–1997, nearly doubled to reach 27.4 per cent in 1998–1999. It fluctuated between 17.02 per cent in 2001–2002 to 24.46 per cent in 1999–2000. Even in terms of administrative autonomy, Kerala has made significant progress. Seventeen departments have transferred relevant functionaries to panchayats fully or in part. The panchayats have been given disciplinary control over the staff and have been declared executive authorities. Based on the experience of Kerala, Prof. Oommen advocated a more empowering approach for strengthening PRIs financially based on rational mechanisms designed in terms of efficiency, equity, predictability, transparency, and adequacy. Shri M. N. Roy in his paper ‘Panchayati Raj in West Bengal and Issues before the 13th Finance Commission’ argued that West Bengal has endeavoured continually to strengthen the panchayati raj system. The West Bengal Panchayat (Amendment) Act 1994 enables all the three tiers of panchayats to mobilise revenue. However, GPs alone have the power of taxation, viz. to make assessment and to impose tax yearly on lands and buildings. The Own Source Revenue (OSR) is still quite low and needs to be augmented substantially, but the growth rate of revenue mobilisation (around 30 per cent) is encouraging thanks to the recent attention given to OSR. In West Bengal, transfer of funds to PRIs amounted to a very modest sum of around Rs. 25 crore in 1980–1981, which grew to Rs. 3,230 crore in 2007–2008. The state government provides funds to the panchayat bodies for meeting establishment costs, including salary and pension of the employees of panchayat bodies, honorarium, etc. Grants, apart from those recommended by SFC, are also provided to panchayats. GPs receive a significant share of the total funds transferred to PRIs by the state government. The other major sources of funds available to panchayats are those that are released for the implementation of various sponsored programmes. The state government has initiated a process to create panchayat windows in the state budget to make devolution more specific and transparent. Further, under decentralised planning, intense community

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mobilisation has led to a contribution of around 20 per cent of the costs of several projects. There is a tremendous gap in the capacities of PRIs regarding the prompt absorption of the funds transferred. PRIs need external support and facilitation. The 13th Finance Commission should consider improving the functioning of LBs by a general increase in the total quantum of funds transferred to these bodies. Arrangements should be made for the automatic transfer of funds to LBs through the state government as an entitlement so that LBs can plan well ahead and are assured of receiving the funds in time. Dr. M. Devendra Babu and Dr. N. Sivanna in their paper ‘Finances of Rural Local Governments in Karnataka: Structure, Pattern, and Policy Implications’ pointed out that the Karnataka Panchayati Raj Act, 1993 has entrusted a wide range of functions to panchayats. To carry out these functions, GPs currently receive an annual grant of Rs. 6 lakh from the state and have the power to levy taxes and fees. Both the taluka panchayat (TP) and the zilla parishad (ZP) are allowed to charge property fee, but do not have the power to levy taxes. Except for these powers, PRIs have to depend solely on the resources transferred from the higher levels. The state shares its own revenue with PRIs; this is given in the form of Plan and non-Plan grants. The Karnataka Panchayati Raj Act, 1993 empowers PRIs to raise loans for the execution of any development work; however, this can only be done with many conditions in place. The Government of Karnataka has tried to devolve larger grants to PRIs as compared to other states in India. The total grants (Plan and non-Plan) devolved to PRIs have been increasing over the years. However, in relation to state revenue and state plan outlays, a declining trend (seen in percentage terms) is evident. The share of own revenue in the total revenues of PRIs is very small. The main factors responsible for the low rate of revenue mobilisation are: small size of GPs, deteriorating standards of governance, non-revision of tax rates, and the dependency syndrome. As a result, PRIs have made very nominal allocations for development programmes. The Government of Karnataka has initiated many reforms to ensure greater efforts by the gram panchayats (GPs) for resource mobilisation, such as revision of rates, fresh survey of households, bringing left out houses under the tax net, and collection of water charges.

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PRIs need to be provided with adequate and predictable resources and given the discretion to utilise these as per their needs. The responsibility of correcting the prevailing fiscal imbalances has to be borne by both the state government and the panchayats. The GPs should make sincere efforts to maximise revenues from their existing tax and non-tax sources. In many cases, the elected members of PRIs themselves are tax defaulters. It is important GPs should conduct gram sabhas regularly to convince the people about the importance of paying taxes. The staff and members of PRIs need continual training for this purpose. The state’s revenues need to be shared with LBs in proportion to rising revenues. Instead of lump-sum grants, incentive-based grants based on the tax efforts made should be given. A separate ‘equalisation grant’ may be created for resource-poor panchayats. An Apex Corporation may be established to help PRIs raise loans to meet their needs.

Prof. G. Palanithurai in his paper ‘Financial System and Processes for Local Governance’ argued that PRIs in Tamil Nadu have suffered from a resource gap because of the reluctance of the executive branch of the state. The Government of Tamil Nadu has failed to accept the recommendations of SFCs. The 1st SFC in Tamil Nadu recommended an increase in the devolution of state-owned tax resources from 8 per cent to 12 per cent from 1996–97, the increase to be made at the rate of 1 per cent annually. But the Government of Tamil Nadu decided to freeze the devolution at 8 per cent of its resources for the five-year period. Some of the major recommendations of the first SFC that have not been accepted by the state government, such as calculation of local cess and local cess surcharge based on average land revenue, have affected the financial resources of the panchayats. Similarly, the second SFC recommended the devolution of 8 per cent from state-owned tax resources for the first two years, 9 per cent for the next two years, and 10 per cent for the last one year. But the Government of Tamil Nadu issued orders freezing the devolution of funds to 8 per cent per annum. The third SFC recommended the devolution of 10 per cent to the LBs for the entire award period; the state government has not accepted it for all years. There has been laxity in implementing the recommendations of SFCs. Many legitimate dues of PRIs have not been settled. There are also erratic releases, which affect financial planning by the LBs. There are even many unauthorised diversions of the statutory SFC grant by the government. While income transferred to the village panchayats has

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declined sharply, there has been a steep rise in expenditure. Population being the main criterion for transfer, many small GPs cannot get the money they need. The panchayats face several problems in raising local tax revenue. Local tax collections can be improved by enhancing the administrative capacity of the LBs. The village panchayats that want to increase tax rates and mobilise new sources of income may be encouraged by giving them suitable incentives. For the maintenance of assets and personnel support, recurring and special grants may be provided. Acts that work as barriers to augmenting resources for panchayats should be amended. The panchayats at the three levels should be given the responsibility for resource mobilisation, including taxation. No institution should be designated as an institution of expenditure. Unviable panchayats may have to be integrated with other panchayats. The recommendations of SFCs have to be accepted in all seriousness. Funds should be credited directly to the accounts of LBs. The CFC and the SFCs may be constituted simultaneously, with the TOR being supervised by the union Planning Commission. The 13th Finance Commission should recommend that one-third of the amount from out of the CFC grant released should be earmarked for LBs.

Discussion: It was emphasised that funds should be transferred to PRIs on an entitlement basis. Issues related to the situation in various states were raised. It was stressed that Karnataka was a pioneer in the 1980s, but later the situation deteriorated. Similarly, in Tamil Nadu, a general reluctance on the part of the ruling elite and the bureaucracy to open up for decentralisation has been observed. The issue of serving bureaucrats being appointed as chairpersons of the SFC was also raised. Concern was expressed over the fact that while the State Election Commission is working effectively, the SFC has not been able to function similarly.

4.0 ISSUES CONCERNING BROADER DECENTRALISATION

The major questions raised for discussion in connection with the theme were: How can the states be incentivised to transfer control of functionaries and funds to PRIs in crucial areas like education, agriculture and veterinary extension, health, women and child welfare, roads, and water supply? How can

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devolution to LBs be measured? Can an index help in this regard? Why are some states bypassing the panchayat system in respect of the areas allocated to panchayats through either statutory or non-statutory parallel structures? How can this matter be addressed effectively to ensure that power vests with LBs?

Although no separate session had been organised for the theme, several papers raised issues focusing on the prospects and problems being faced in bringing about greater local decentralisation. The main findings of the relevant papers and the discussion points are summarised below. Shri M. N. Roy’s paper ‘Panchayati Raj in West Bengal and Issues before the 13th Finance Commission’ looked at the issue of functional devolution to PRIs. There have been continual efforts in the state to strengthen the panchayat system. Much before comprehensive activity mapping was taken up, several important powers were assigned to the panchayats and many powers were acquired by them without any formal devolution, such as land reform activities. In terms of devolution of functionaries, several departments have allowed their officials to also work as the functionaries of PRIs for performing the devolved functions. Officials of many departments are associated with PRIs as members of the statutory standing committees. The Government of West Bengal has initiated a legislative process to build a separate cadre of panchayat employees at different levels. Around 30,000 employees work for PRIs exclusively in the state. However, there is a need to augment own employees in fields such as project management, poverty alleviation, engineering, accounting, and IT-related areas. Further, West Bengal has taken the initiative to improve service delivery by PRIs by building capacities and adopting several good practices, including the promotion of the rights-based approach. Panchayats deliver various essential civic services, such as drinking water supply, solid waste management, drainage and sewage, and street lighting. They are also involved in implementing schemes like the National Rural Employment Guarantee Act (NREGA), Swaranjayanti Gram Swarojgar Yojana (SGSY), housing, and old age pension. The efforts of the panchayats along with the other initiatives adopted by the state have resulted in the reduction of poverty in West Bengal at a faster pace.

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The panchayats in West Bengal are closely associated with attempts aimed at improving many of the determinants of public health. The Health Department has devolved several functions such as management of primary health centres (PHCs) and Sub-centres to PRIs. The panchayats have been fully devolved of the responsibility of sponsoring and supporting community-managed education centres, running Mid Day Meal (MDM) scheme, and providing infrastructural support to formal schools. PRIs are involved in the promotion of all primary sector economic activities, such as agriculture, animal husbandry, fisheries, and forestry, including creating infrastructure, undertaking skill development, and managing disasters. Panchayats are being encouraged to enter into partnership with public and private agencies in delivering commercially viable services to citizens. West Bengal in the recent past has given more importance to the efficient functioning of LBs. A Gram Unnayan Samiti (GUS) is formed in each gram sansad to work as its executive arm and to help the GP in planning and implementing various works. The panchayats have to prepare annual and five-year perspective plans that are integrated with the district plans in a holistic manner. Activity mapping should take place in respect of all sponsored programmes to clearly spell out the responsibilities of local governments. In addition, funds should flow more as untied resources, with simple conditions for LBs to utilise the amount while keeping the broad objectives in mind. All the parallel bodies should be abolished and funds should flow directly to LBs through the state government. PRIs should be helped by the central government in building administrative structures for delivering various services. Dr. Pranab K. Das and Dr. Surajit C. Mukhopadhyay in their paper ‘Decentralisation and Service Delivery: A Study in the Rural Governance of the Gram Panchayats in West Bengal’ analysed the nature and extent of decentralisation and its correlation with service delivery across a sample of GPs in the rural areas of 18 districts. The authors argued that the success of decentralisation in West Bengal, a pioneer in the country in this field, is limited. They hypothesised that decentralisation was being intertwined with the socio-political process at the local level of governance. The district-level averages for the relevant variables indicate that the hypothesis has merit and

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that the broader context of decentralisation is crucial in order to understand the fiscal and other measures of local governance. In terms of the perception of rural households and functionaries of GPs, the study revealed that there is distinctly less enthusiasm among households in backward districts about the performance of PRIs as compared to other districts. Further, a large proportion of respondents in these districts preferred taking the help of government departments in seeking service delivery. This indicates an apparent lack of confidence among the people in these districts in the existing capacity of their GPs to deliver the necessary services. In all the districts, very few residents were aware of the activities of non-governmental organisations (NGOs) or village education committees (VECs) in their village. In contrast, self-help groups (SHGs) seem to have much greater visibility and GPs appear to play an important role in the formation of SHGs. In arbitration or salishi, which is a very prominent feature of village life in all the districts, the GP seems to play a key role. About the distribution of benefits across different villages under a GP, in many districts a considerable number of respondents felt that the benefits were distributed unevenly and that the overwhelming reason for this was that the samsads represented by the dominant party in the GP were favoured unequally. In all districts, the major service expected from GPs is the construction and maintenance of roads. This expectation is reflected both in the perception of the GP members themselves about the different services provided by GPs and the important development work being carried out by GPs. About the quality of the major development work carried out by GPs, very few people were prepared to say that the work executed was of very good quality. The overwhelming reasons given for this situation were improper supervision and corruption. The study also revealed that there is widespread dissatisfaction in all districts about the BPL [Below Poverty Line] lists that are used to determine the beneficiaries for many GP programmes. Large majorities in most districts felt that the reason for the incorrect BPL lists was political partiality and non-involvement of the public in preparing these lists. Further, a large majority in most districts said that only a few people had benefited from the work of GPs. Suggestions for improving the performance of GPs included better monitoring

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of projects, taking the help of government departments, recruiting professionals, and involving the people. Based on the correlation between two aggregate indices, viz. the Decentralisation Index (DCI) and the Services Delivery Index (SDI), the paper established that there is a positive association between decentralisation and service delivery. While one can justifiably claim that decentralisation as a movement has been rather successful, its efficacy in terms of governance at the local level is severely constrained. While drawing up policy for the panchayats, one should keep in mind the role of the larger factors that influence variations across GPs in terms of decentralisation or service delivery. In reference to West Bengal, the study concluded that in terms of the prevailing state of affairs, decentralisation is far from being an absolute success. Dr. M. Devendra Babu and Dr. N. Sivanna in their paper ‘Finances of Rural Local Governments in Karnataka: Structure, Pattern, and Policy Implications’ analysed the decentralisation efforts in Karnataka, which has devolved all the 29 functions to PRIs. The Government of Karnataka took a policy decision in 1987 to depute its personnel working at the district and below to PRIs. At present, about 3.28 lakh personnel are serving in three-tier panchayats. More recently, the Government of Karnataka took a few proactive steps through innovative policy measures, such as devolving the responsibility for plan formulation and implementation to panchayats by transferring functions, functionaries, and finances, and by introducing social auditing at the GP level to ensure transparency, thus enabling GPs to call for tenders for all works with an estimated cost of Rs. 10,000 and above, and involving panchayats actively in the provision of various public services. The Government of Karnataka has developed a detailed range of activity mapping for all the three-tier panchayats. The GPs have been entrusted with the responsibility of implementing wide-ranging development schemes. As a result, the average budget for a GP in Karnataka has increased to Rs. 35 lakh. The state government has transferred 435 Plan and 230 non-Plan schemes in about 26 development sectors to the panchayats. However, an area of concern is the channeling of funds through various statutory and non-statutory bodies whose activities greatly overlap with those of the panchayats. The authors argued that it would be better for local development funds to be routed through PRIs only.

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Prof. G. Palanithurai in his paper ‘The Financial System and Processes for Local Governance’ examined the challenges being faced by LBs. The emergence of LBs as institutions of self-governance has faced constraints even after 1993. The role of PRIs has been curtailed systematically by the political executive. The Tamil Nadu Panchayats Act, 1994 is in many ways a replica of the 1958 act. As per the 1994 act, powers and responsibilities are to be delegated through notification, which is contrary to the Constitution. Powers and responsibilities were not given to the panchayats even through notification. The Government of Tamil Nadu has made devolution a non-serious affair. It wants to give authority to the panchayats more at its own discretion and not as constitutionally mandated or required. The political executive of Tamil Nadu did not have the will to make the panchayats effective institutions of self-government. The bureaucracy also has not helped in endowing the panchayats with the necessary powers. Even though the Tamil Nadu Panchayats Act, 1994 incorporated certain provisions of the 73rd Constitutional Amendment Act, powers, functions, functionaries, and finances have not been given to the panchayats in the spirit in which the said constitutional amendment act was passed. Indeed, some of the forward-looking powers given to the panchayats have now been taken away. So practically the functions of the panchayat are crippled. The various rules issued by the state government are curtailing the powers and authority of the panchayats. The Inspector of Panchayats/District Collector has been given powers under section 205 of the Tamil Nadu Panchayats Act, 1994 to remove the elected president of a village panchayat. There is no effort to initiate micro-planning as per the mandate of the Constitution. The people’s felt needs are not being met as a result. Instead, planning has been imposed from above. Tamil Nadu has a long way to go before it can devolve substantive powers and functions to the panchayats. Dr. V. N. Alok in his paper ‘Devolution of Resources to Local Governments: Role of the 13th Finance Commission’ proposed a Devolution Index (developed jointly with Dr. Laveesh Bhandari) that can help capture the environment of decentralisation for PRIs and that can be applied for determining transfers. The Functions, Finances, and Functionaries (FFF) Index offers a method for quantifying the current environment under which PRIs function. The method stresses the role of village-level PRIs. These are rated on the basis of Functions, Finances, and Functionaries. Each of these heads has

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between 5 to 9 measures carrying equal weights. The value of each measure ranges between 1 and 5. The final index of devolution to PRIs, however, should be calculated as a multiple of the three sub-indices. The FFF Index seeks to capture the extent of devolution that the state government has achieved. It will allow not only an inter-state comparison but also a comparison across time. Discussion: The issue of a separate cadre for PRI employees was raised. It was felt that there is a need for employees to be located at the PRI levels for functioning effectively. There is also a serious shortage of personnel at the GP level as in Karnataka, where only one person is responsible for all the planning and implementation activities. With regard to decentralisation, the question was raised whether states can be classified based on the generation or stage of devolution. It was stated that the central government has already got a method or norm similar to this. In regard to constructing an index of decentralisation, it was suggested that while preparing such an index it was more important to look at the environment of decentralisation than at the outcomes of decentralisation. 5.0 CAPACITY BUILDING, AND ACCOUNTING AND AUDITING

PRACTICES OF PRIs With increased financial devolution, the need for building the capacities of PRIs for better financial management and accountability has become more pronounced. The session on the theme critically examined issues relating to the staffing of PRIs, accounting practices (including data availability) and relying on own revenue and expenditure, accrual accounting, auditing, and computerisation. Shri Samar Ray, Deputy CAG and Prof. Remakantan of KILA presented papers on the theme. Other presenters (Shri M. N. Roy) also focused on the issue of capacity building of PRIs from their own perspectives. The papers revealed that there are inadequate capacities at various levels for ensuring effective financial management and accountability among PRIs. This situation is reflected in problems like loss of revenue and mounting arrears of accounts and audit. CAG is constrained by the existing legal arrangements in carrying

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out the auditing of PRIs as per its mandate. More recent efforts aimed at streamlining accounting and auditing practices and building enabling systems have shown good results. Focused capacity-building efforts like those in Kerala have had a positive impact on the financial management practices of PRIs. Shri Ray in his paper ‘Capacity Building, Accounting Practices, Computerisation, Data on Own Revenue and Expenditure, Pitfalls and Way Forward’ highlighted the fact that the large-scale devolution of funds flow to LBs necessitates effective financial management, accounting, and audit systems as the accountability structures in PRIs have yet to be stabilised. CAG has made efforts to implement the recommendations of the 11th and 12th Finance Commissions. The accounts of LBs are also maintained as per the state acts and rules, and the Director of Local Fund Audit (DLFA) or a similar statutory authority conducts audit of LBs. CAG prescribed in 2002 the receipt and payment format for PRIs on a modified cash basis that addresses critical aspects concerning accruals. Further attempts to formulate a robust but simple accounting system for PRIs have been made. Arrears in accounts continue to be a cause for concern in a few states. With regard to audit arrangements and practices, in most states, DLFA or a similar authority under the respective state acts is the primary auditor for LBs. The entrustment of the audit arrangement under the Technical Guidance and Support (TGS) module to CAG by some state governments is not complete and the acts have also not been amended. Further, the up-gradation of auditing, accounting, and technical skills has also been found to be weak. CAG’s audit reports have brought out several limitation in PRIs, such as weaknesses in the budgeting and control system leading to loss of revenue, inaccurate cash books, delay in preparation of monthly and annual accounts, improper utilisation of funds due to incomplete works and fraudulent/irregular practices, absence of internal controls, mounting arrears in internal audit, and poor planning and implementation of various schemes. With regard to capacity building, CAG has developed the TGS model for DLFA staff and has also organised comprehensive training in the areas of accounts preparation and audit. Under TGS, there is close collaboration with DLFAs in various states. The training sessions have helped in improving the overall skill levels of the DLFA staff. Regional DLFA conferences have been

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conducted successfully to deliberate and disseminate information about the latest developments. In regard to computerisation and database management, CAG has suggested comprehensive formats covering the financial profiles of LBs and providing comprehensive information on the financial and physical progress under various programmes. The formats have received wide acceptance by the states. The National Informatics Centre (NIC) has developed the PRIA software for the maintenance of PRI accounts.

In the case of PRI accounts, the focus should be on issues like preparation of action plans for clearance of arrears of accounts, recruitment of skilled staff, creation of a dedicated cadre, skill up-gradation, computerisation of accounting systems, setting up credible databases for the finances of PRIs, and enacting amendments to state laws to incorporate best practices. More specifically, Shri Ray argued that the 13th Finance Commission can help in capacity building by providing support or funds to enable the meaningful compilation of accounts by PRIs, to firm up accounting formats and standards, and to switch over to accrual accounting in due course, including building infrastructure, undertaking competent scrutiny of PRI accounts, and facilitating audit inferences; assessing the extent and nature of arrears of accounts and audit, and framing a phase-wise programme for the liquidation of such arrears, including timely legislative reviews; to impress the need for broadening the role of CAG for the regular statutory audit of PRIs through necessary amendments to the relevant acts; and to help build an interactive electronic network linking accounting, auditing, reviewing, financing, and monitoring centres.

Prof. N. Remakantan brought out the role of capacity building based on the experience of Kerala, which has achieved remarkable success by carefully adopting legal measures and implementing capacity-building programmes. The Kerala Panchayat Raj Act, 1994 includes clear legal provisions for ensuring the proper maintenance of accounts of panchayats. Rules have been framed for the use of financial resources, flow of funds to local governments, and maintenance of accounts and expenditure statements. A new system at par with the national accounting standards prescribed by CAG was introduced in 2004. Most local governments are now able to submit the Annual Financial

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Statement for auditing within the stipulated time frame. The other steps in this direction were the introduction of the bill system for fund utilisation and one-time updating of accounts. The Department of Local Fund Audit of the Government of Kerala has been entrusted with the statutory authority of the financial audit of local governments. Random audit of 10 per cent of PRIs is done by CAG. The People’s Campaign for Decentralised Planning of 1996 invested enormous social capital in enhancing the capacity of local governments. In addition to developing new systems and procedures for the utilisation of public funds, continuous efforts are being made for capacity building of all the key functionaries of local governments and for strengthening financial decentralisation and the public fund management system. The setting up of the Kerala Institute of Local Administration (KILA) for training and capacity building was a major step in this direction. KILA focuses on the comprehensive, continuous, and concurrent training of different functionaries. It is collectively owned by the local governments of Kerala, and the Association of Local Governments has a say in the functioning of the Institute. A unique strategy for capacity building has been in place since 1997. Comprehensive training has been designed for all stakeholders simultaneously in 14 districts. Capacity building has been initiated broadly at three levels: (1) training of officials, including transferred institutions, at the panchayat level; (2) training of elected representatives for overseeing the accounting process; and (3) training of different audit personnel. KILA uses instruments such as training need assessment, helpline, newsletter, FAQs (Frequently Asked Questions), and review of local associations. Two types of training are conducted—thematic and generic. Training has been conducted on issues such as fund flow and the role of panchayats in resource mobilisation. The training programmes conducted have followed participatory and interactive methods. Tutorial - and coaching-based training is also provided. The approach is now moving towards experiential training, with peer learning being encouraged at the panchayat level. Since 1998, KILA has been the nodal institution for imparting training for the Performance Audit Team. KILA has also designed and implemented many training programmes to enhance the capacity of the Local Fund Audit Team. KILA has so far covered

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40,652 training days in the last five years, involving 28,755 participants in 315 training events, with a significant positive impact. Shri M. N. Roy in his paper ‘Panchayati Raj in West Bengal and Issues before the 13th Finance Commission’ examined the capacity-building experience of West Bengal. There is a tremendous gap in capacities requiring the attention of the state government. Separate cadres of panchayat employees have been established in the state. Regular training of elected functionaries and officials is one of the important interventions. West Bengal has adopted a training strategy for imparting training to every elected person within a reasonable time. Thirty residential training centres with dedicated trainers have been established for providing residential training to elected functionaries of the GP. The State Institute of Panchayat and Rural Development (SIPRD) has been engaged to train the functionaries of the three tiers of government. West Bengal is in the process of establishing a District Training Centre for imparting residential training related to panchayat and rural development. Appropriate training material using multimedia has been developed. A team of mobile trainers has been created for visiting GPs to ensure improved functioning. A process of self-evaluation by PRIs in a structured manner has been introduced in the state. Steps taken for improving the financial management of PRIs in West Bengal include the timely passing of the budget and the revised budget, proper expenditure authorisation as per the provisions of the budget for ensuring budgetary control and compliance with financial norms for all expenditure, and rules for the double-entry system of accounting. Several posts have been created for strengthening the accounting system. A quicker flow of funds and their utilisation by PRIs is being attempted through a system of electronic transfer. The accounts of the GP, the panchayat samiti, and the ZP are organised, examined, and audited periodically by the Internal Audit wing of the panchayat department. The Examiner of Local Accounts, a unit of CAG, does the statutory audit of PRIs. West Bengal has taken up the task of building Information and Communication Technology (ICT), starting with the computerisation of all accounts. Every GP has two computers, one for accounting and the other for programme management. An integrated

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Management Information System (MIS) system for reporting monthly progress is being put in place. To ensure more efficiency and transparency in procurement, all ZPs have started publishing their tenders using e-procurement. Large numbers of PRI employees are being trained in ICT interventions. A facility for distance communication and education using satellite communication for interaction with all panchayat functionaries has been developed. Common Services Centres (CSCs) are being established under the e-governance plan with the help of private sector service providers. PRIs need external support and facilitation. Developing appropriate administrative structures for LBs should be a mandate of the central government. The total costs of establishing LBs, which are borne by the state governments, should be shared, preferably in the ratio of 75:25, between the central and the state governments. The 13th Finance Commission should pay attention to this aspect. Discussion: It was pointed out that studies suggest that capacity building and decentralisation should be undertaken side by side. The issue of the cost of training for institutions like KILA was raised. How is the budget of KILA managed? Is there any fee or charge for the training? Are there any linkages with other services or schemes like Kudumbashree when it comes to capacity building? It was suggested that the existing capacities built into various development programmes like Joint Forest Management (JFM) need to be tapped, which may help reduce duplication of effort and aid in economising on capacity-building expenses. Pertaining to Shri Ray’s paper, the following issues came up for discussion. Why are there variations across the states when it comes to utilising the grants of the 12th Finance Commission, as per the paper? This was attributed partly to inadequate and unverifiable information and partly to variations in the accounting practices across the states. The need for imposing penalties for not completing the audit was emphasised. Could a uniform national audit framework be adopted? This issue was raised in view of the different methods followed by various state governments. Some of the definite recommendations made by the 11th Finance Commission with regard to capacity building have yet to be implemented; this situation needs further examination. It was said that

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a refined software will soon be available for use by all those dealing with the finances of LBs. The adoption of the accrual accounting system by LBs was suggested. If adopted at all the three tiers, what would be the norm for the optimum level of borrowing and fiscal deficit? However, it was felt that the move towards the accrual accounting system should be gradual as any sudden change may pose problems. The shift could take place especially at the lower PRIs rather than at the upper levels. 6.0 ANALYSIS OF THE CONSTITUTIONAL ASYMMETRY IN

DEVOLUTION BETWEEN THE CENTRE AND THE STATES, AND BETWEEN THE STATES AND LOCAL BODIES

The major questions posed for discussion during the session were: Should the Finance Commission make its recommendations based only on the recommendations of SFCs? What are the constitutional and legal provisions for devolving funds directly to PRIs and LBs from the centre? What are the possible amendments to the Constitution with regard to (a) Article 280 (bb) relating to the Finance Commission making recommendations keeping in mind the recommendations made by SFC, and (b) keeping out the state government devolutions to LBs out of the Consolidated Fund of the state in the same manner as the share of state taxes not forming a part of the Consolidated Fund of India? What is the progress with regard to the implementation of the Panchayats (Extension to the Scheduled Areas) Act (PESA), 1996? What should be the role of regional development boards or urban development authorities vis-à-vis ULBs and PRIs? How can their functioning be made consistent with the provisions of the 73rd and 74th Amendments? The session was chaired by Prof. M. A. Oommen. In the light of the arguments made for constitutional amendments for rectifying the prevailing constraints faced by the Finance Commission, and for resorting to more direct transfer of funds to LBs, the papers presented at this session highlighted both the futility and undesirability of such suggested measures. LBs have been given a clear

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role and status in the Constitution, which should be more than adequate to strengthening the LBs financially or otherwise. Shri Rahul Singh in his paper ‘Law and Economics of the Third Stratum: Is it A La Meddle, Muddle but Stay in the Middle?’ looked at some of the constitutional questions pertaining to devolution and the transfer mechanism. The problems faced by the third stratum are akin to the principal–agent problem where stakeholders (citizens) are the principals and institutions of governance are the agents. The agency cost analysis of the third stratum yields interesting exploratory as well as normative insights. Shri Singh noted that the constitutional architecture of the third stratum relies upon the triumvirate of autonomy, legitimacy, and social capital. He argued that the Constitution being a social contract, a literal interpretation is inappropriate. A purposive, context-based hermeneutics of the Constitution and its amendments indicates that the third stratum can only be strengthened and empowered by institutions of governance, including the Finance Commission. Notwithstanding Article 40, endeavours by the states to further local self-government (LSG) fell widely short of the constitutional promise. The purpose of the 73rd and 74th Amendments to the Constitution was to reduce this agency cost by ensuring regular elections and by imparting certainty, continuity, and strength to LBs. Autonomy, legitimacy, and social capital are crucial for the success of LBs and were sought to be strengthened. Hence, states do not have complete discretion to regulate LBs but are constrained by the constitutional mandate that enables them to function as institutions of self-government. Denial of the right even to collect taxes by the state legislature would serve to emasculate LBs, thus undermining the constitutional intent. Despite such a provision, jurisprudence in this area has been challenged. Suggestions have been made for a constitutional amendment to categorically declare PRIs ‘institutions of self-government’. A purposive, context-based interpretation of the Constitution would indicate that it is already as categorical as it can get. It is unlikely that in the absence of political will, tinkering with words like ‘may’ and ‘shall’ would make any difference at all. The constitutional hermeneutics of a purposive, context-based interpretation can be used to analyse any apparent constitutional asymmetry.

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The previous Finance Commissions found constitutional provisions to be major stumbling blocks in their attempts to strengthen the institutions of LSG. This was owing to the erroneous perception of the previous Finance Commissions that the constitutional mandate under Article 280(3) (bb) and (c) applies only ‘on the basis of the recommendations made by the Finance Commission of the State’. They failed to take note of the changed context under the 73rd and 74th Amendments. Moreover, Article 40 is no longer merely hortatory, but is an enumerated, actionable provision of the Constitution. The Central Finance Commission need not feel hamstrung because of the working of SFCs. It should carry out its constitutional mandate of augmenting and supplementing the resources of panchayats and municipalities. It is possible to recommend direct devolution of funds to institutions of LSG based on certain best practices without any constitutional amendments that are difficult to enact and that have high transaction costs. The practical way of incentivising devolution is for the Central Finance Commission to link revenue and grants with the decentralisation index, reflecting autonomy, legitimacy, and social capital. In regard to PESA, there is no jurisprudential rationale for keeping the Schedule Areas out of the purview of the 73rd and 74th Amendments. PESA seeks the promotion of decentralised and participatory democracy in the form of gram sabhas rather than representative democracy in the form of PRIs. PESA provides a legislative framework for the indigenous community in the schedule areas to retain control over natural resources and to preserve their separate identity and culture. The Finance Commission may allocate financial resources if it feels that the powers of the gram sabha have been preserved. In the absence of the gram sabha, the Finance Commission may rely on its mandate to adopt a need-based approach for providing assistance. CAG finds itself hamstrung owing to the lack of a statutory mandate to audit LBs. It believes that the states would need to amend their laws to enable CAG to audit the accounts of LBs. CAG’s legal power to audit the accounts of LBs is limited. Perhaps the 13th Finance Commission could help CAG so that it may enter into agreements with the state governments. The provisions of §13, §16, §14 (2), and §20 (2) of the Duties, Powers and Conditions of Service (DPC) Act, 1971 read with the constitutional provisions for putting CAG on the pedestal of a Supreme Court Judge would ensure that CAG’s legal power to

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audit the accounts of LBs would be unchallenged. There is wiggle room for CAG to use the courts to explore the possibility of auditing the accounts of LBs. Dr. V. N. Alok in his paper ‘Devolution of Resources to Local Governments: Role of the 13th Finance Commission’ sought to identify the rationale of Article 280 (3) (bb & c) on which the TOR of CFC is based. The genesis of Article 280 can be traced to the Report of the Joint Committee of Parliament (1991), which recommended putting the devolution of resources to LBs on a more rational and firmer footing. Further, the report also recommended that along with the state governments the central government should also have a corresponding role and responsibility. The clause provides a legal basis for the pass-through of central funds to the local governments with which the centre has no direct relationship. The term measures in the clause offers extensive scope for intervention by CFC to include even legislative, administrative, and financial measures. To remove any ambiguity, an amendment to Article 266, defining the Consolidated Fund of a state on lines similar to the Consolidated Fund of India, would be useful. Even though CFC has to base its recommendations on those of SFCs, Dr. Alok argued that the 13th Finance Commission can make its own assessment for determining the transfer basis. Dr. T. M. Joseph and Dr. J. Chathukulam in their paper ‘Financial Devolution to Local Governments: Economic Rationality versus Political Expediency’ examined the question of whether there is scope for effective financial devolution within the existing constitutional framework. They looked at the implications of the model under which funds are being devolved directly from the centre to the local governments, keeping the experience of Kerala in mind. The financial devolution pattern that exists in India is constitutionally fixed. Constitutionally, there is no scheme for transferring funds directly from the centre to the local governments. But it has now become the practice for the centre to transfer substantial funds directly to PRIs and other agencies while bypassing the state governments. There is a proliferation of transfers through various other channels outside the statutory transfers recommended by the previous Finance Commissions. Many of these transfers are not only discretionary, but they are also directly going to

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the district authorities and to other agencies, bypassing the state budgets. The moot question is whether the centre can devolve funds directly to LSGs while overlooking the states, which are the manifestation of sub national identities. While the principle of economic rationality yields an affirmative answer, the pluralistic nature of the Indian polity dictates otherwise. Although direct transfer brings about more efficiency, it may weaken our already fragile federal structure and disturb the delicate balance between different sub nationalities. At the policy level, we need to strike a balance between economic rationality and political expediency. It is widely acknowledged that if the regional political elites are not satisfied with the existing power balance and with the equation between the centre and the states, this may sometimes lead to an aggressive articulation of sub national identities. This may pose a potential threat to the Indian federal polity. The tacit understanding that prevailed during the discourse on nation-building was that these sub national identities will be protected. Any attempt to devolve funds directly to local governments may face stiff resistance from the regional political elites. Considering the two models, the direct flow of funds from the centre to the states may not always strengthen the devolution process. On the contrary, it may sometimes weaken the devolution process. It is here that the Kerala model of financial devolution becomes relevant. The Kerala devolution scheme is a case of harmonious blending between economic rationality and political expediency, a model that can be emulated by other states as well. Prof. M. A. Oommen in his paper ‘Conceptual Framework for Fiscal Decentralisation to Sub-State-Level Governments’ raised two concerns pertaining to the theme of the session. There is a proliferation of parallel bodies and a diversion of panchayat funds to them. The centre and the states are equally guilty of this. When it comes to panchayats, most activities are under the state or union concurrent lists. Ultimately, this can reduce the panchayat to the status of a non-entity. Prof. Oommen pointed out that changes in the method of central fund transfer, with direct grants to LBs by the central government while bypassing the state governments, have some important consequences. First, it affects the state’s fiscal autonomy and priorities. Second, the states tend to lose interest in the projects that are not part of their list of priorities. Third, it is very difficult to get comprehensive information

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about public spending on different services; this is vital for local planning. Fourth, states have to deal with multiple agencies, each with its own agenda and priorities. Hence, there is a need to avoid such a direct transfer mechanism. Discussion: The analysis of the third stratum of governance from the legal and economic perspectives was appreciated by the chairman of the session for its unconventional approach. It was argued that in the light of the presentation made by Shri Rahul Singh, at present the national accounts constitutes the total of the central accounts and the state accounts. Going by the argument presented, a constitutional amendment would be required to achieve direct financial devolution from the centre to the third stratum of governance, that is, district-level bodies. It was clarified that a constitutional amendment is practically difficult to achieve with respect to the third stratum of governance, which is basically a cause of concern for CAG. Whether the use of terms like ‘may’ or ‘shall’ conveys different meanings and whether these terms can be used interchangeably is a debatable point, but it was felt that they do not make much of a difference as they convey largely the same meaning for the purpose of interpretation. It was argued that the Indian Constitution is not a usual statute but a social contract, and hence a literal interpretation of any law is meaningless. Lack of decentralisation is due more to lack of political will rather than to lack of constitutional provision. 7.0 FINANCIAL AND FUNCTIONAL DEVOLUTION OF URBAN

LOCAL BODIES The session began with a brief overview by Dr. G. C. Srivastava, who chaired the session. He noted that provision for drinking water, sanitation, drainage, local roads, and street lighting form the five main services of ULBs, and that all the remaining services may be considered additional charges of these bodies. He also stated that finances form the main topic of discussion when one talks about ULBs. The papers presented emphasised the growing challenges faced by ULBs. The states and SFCs have dealt with ULBs inadequately, resulting in continued poor urban governance. The papers called for more proactive measures to strengthen the financial position of ULBs through alternate and innovative mechanisms.

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The introduction to the session was followed by a presentation by Shri Sumedh Gurjar based on his paper ‘Best Practices in Financial Management of Urban Local bodies.’ He argued that globalisation and decentralisation require the optimisation of revenue and other resources of ULBs through innovative resource mobilisation. A strong reform of ULB accounting coupled with the streamlining of cash flows are prerequisites for effective devolution. Shri Gurjar discussed the general characteristics of a best practice and the broad characteristics of certain themes of the study, including maintenance of municipal finance statistics; resource mobilisation; expenditure compression; public–private partnership; adoption of accrual accounting, audit, and transparency measures; delegation of powers to municipalities by state governments, including functions, funds, and functionaries; transfer of funds from GOI/Finance Commission/Planning Commission to LBs; accountability of LBs; and best practices relating to in situ slum development. The conceptual framework adopted by the Yeshwantrao Chavan Academy of Development Administration, (YASHADA) in Pune aims to ensure that ULBs become more accountable through the adoption of transparent mechanisms, such as proactive disclosure, social audit, public hearing, citizens’ report card, and e-governance. These measures have been recommended as effective tools for increased participation. YASHADA has carried out a few preliminary case studies so far, which provide insights into the emerging best practices. These include:

1. Koshawahini, a powerful online fact-based fiscal management tool designed by the Maharashtra Directorate of Accounts with the help of NIC, provides financial information required for and by various departments.

2. The area-based assessment method, initiated by the Patna Municipal Corporation in 1993, has emerged as a legally tested, administratively feasible method of property tax assessment, which presents a simplified assessment procedure based on location, construction, and use. The method has facilitated a reduction in the tax rate from 44 per cent to 9 per cent of annual assessed value.

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3. The Ahmedabad Municipal Corporation (AMC) took effective steps to raise octroi and subsequently issued municipal bonds in a pioneering format. AMC reformed its system of property tax assessment, as a result of which its e-financial condition has finally turned around.

4. The Ahmedabad Urban Development Authority has used low-cost technology developed by the Mascon Construction System for constructing quality housing for the urban poor on the public private partnership (PPP) basis.

5. The Bangalore Metropolitan Transport Corporation (BMTS) has taken a series of initiatives to provide enhanced services while rationalising costs at the same time.

6. The Baramati Municipal Council outsourced the job of constructing roads to the Maharashtra State Road Development Corporation (MSRDC) as it did not have the required funds for developing infrastructure. MSRDC went in for market-based borrowings for the purpose.

7. The Surat Municipal Corporation has launched bus services on a zero-investment basis in partnership with private operators.

8. In Kerala, seven pilot ULBs were selected for implementing accounting reforms. These ULBs have successfully switched over to accrual-based double-entry accounting.

9. Public Record of Operations and Finance (PROOF) is a private sector standard practice for disclosure that has been adapted by the government to facilitate interaction with the citizens who avail various public services. PROOF has now emerged as an independent trust for promoting and facilitating better disclosure practices in LBs.

10. Kerala has transferred various functions to make ULBs more responsible.

11. ‘Just in time’ fund transfers are being used in rural sector schemes like Sarva Shiksha Abhiyan (SSA) and Indira Awaas Yojana (IAY). It should not be difficult to adopt similar strategies for ULBs.

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12. The Slum Networking Approach adopted by AMC envisages a strong participatory approach in which the government partners with private institutions and the community to provide infrastructure-related services to slum residents.

In the second presentation, Shri Chetan Vaidya gave his paper ‘Market-based Financing of Urban Infrastructure in India: Opportunities for Support’ and discussed the urban challenges and opportunities in India that have led to the need for large investment. The revenue powers of ULBs are not in consonance with their growing needs. It is estimated that the total fund requirement for the implementation of the 11th Five Year Plan target in respect of urban projects is Rs. 12,702 billion. ULBs have to look for alternative sources of financing, including market-based financing, which has emerged as a viable alternative. AMC was the first ULB to access the capital market in January 1998. The debt market for municipal securities in India has grown considerably since then. India’s city governments have mobilised about Rs. 4,450 million from the domestic capital market through taxable municipal bonds, which have been issued so far without a government guarantee. To boost the municipal bond market, GOI provided it a tax-free status. Many ULBs have issued tax-free bonds amounting to Rs. 6,495 million. The Governments of Tamil Nadu and Karnataka issued municipal bonds by pooling municipalities. The success of this model subsequently led GOI to create a central fund called the Pooled Finance Development Fund (PFDF), which enables capital investments to be pooled under a one-state borrowing umbrella. In 2005, GOI attempted to meet the challenge of inadequate urban infrastructure through a national flagship programme called the Jawaharlal Nehru National Urban Renewal Mission (JNNURM). JNNURM encourages ULBs to access market-based financing and to establish PPPs for urban infrastructural projects that are funded by the mission.

Shri Vaidya noted that there are several supply-side constraints on purchasing municipal bonds, such as lack of credit enhancement and hedging tools, fixed cap on tax-free interest bonds, and a poorly developed government securities market. On the demand side, there are too few creditworthy issuers seeking bond financing and too few financially viable projects. While JNNURM and PFDF can help address the demand-side constraints, the supply-side constraints

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can only be addressed by the institutions responsible for the regulation and development of financial markets. This would require expanding the range of ‘approved investments’ for insurance and pension funds, classifying municipal bonds under the ‘hold to maturity’ category, and placing municipal bonds under the priority sector category for investment and/or lending purposes. The most critical factor will be obtaining an investment-grade credit rating for municipal bonds, which will require a sustainable revenue base for ULBs and credit enhancement of the issues. As part of JNNURM, the state governments have to implement a number of ULB reforms. The state governments could set up Pooled Finance Funds to extend credit enhancements. The 13th Finance Commission could support these reforms. Prof. Om Prakash Mathur’s paper ‘SFCs’ Conundrum: SFC Recommendations for Urban Local Bodies’ was based on a study. He analysed the adequacy of the approach of SFCs with regard to urban poverty alleviation, slum improvement and upgradation, and planning for social development. Prof. Mathur argued that the databases of SFCs are highly deficient, and even flawed. The methodologies for estimating the financial needs of ULBs and the revenue account gap require the clear allocation of spending responsibilities, establishment of norms and standards for spending responsibilities, and demarcation of levels of efficiency for determining tax and non-tax domains. The methodologies of SFCs for ULBs consist mainly of extending the past trends of revenue and expenditure into the future, undertaking the normative assessment of expenditure, establishing the predetermined growth rate for estimating future flows, and determining ‘entitlement’ as the basis for estimating financial needs. The methodologies ignore the specific TOR laid down by several states, for example, debt position, liabilities, and cost estimates of maintaining the capital assets of ULBs and fixing norms for their proper maintenance. The 12th Schedule has been bypassed in assessing the financial needs of ULBs, thus raising questions about the role of SFCs. Options for financing ULBs include the assignment of new fiscal avenues to ULBs, putting in place a revenue-sharing arrangement, and adopting a grants-in-aid system. The study showed that currently the criteria for allocating state transfers between ULBs in some states include slum population, Scheduled Castes and Scheduled Tribes, and literacy, suggesting the indirect

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consideration of poverty. The thrust on decentralisation in the 74th Amendment Act envisages a much larger developmental role for ULBs. The state governments and SFCs find it difficult to come to terms with the new profile envisaged for ULBs. SFCs’ recommendations are merely adjustments to the transfers made in the pre-1992 period, but without assessing the need for poverty alleviation and slum improvement. The implications of this situation for the 13th Finance Commission point to the difficulties posed by the direct use of SFCs’ recommendations for determining measures and for abandoning adhocracy. One possible way could be through adopting indirect methods, based on the expenditure levels of ULBs, to raise the spending levels in order to provide a basic level of services, using the Zakaria Committee norms (Rs. 910 per capita) for core services (2004/05 prices) forming 1.24 per cent of GDP, and estimating financial needs on the basis of ‘universalisation of services’. Further progress would require undertaking property tax reforms, and linking these with functions, finances, and functionaries, and using a template for the functioning of SFCs. (A Draft of this proposal was circulated among the conference participants.) Discussion: The discussion that followed the presentation on this topic brought forth some interesting points. It was suggested that the Kudumbashree project in Kerala is an interesting example that could be studied as a best practice. Along with undertaking the documentation of best practices, we also need to look seriously at ‘bad practices documentation’. The merit of studying the Self Employed Women’s Association (SEWA) in Gujarat, which is working in collaboration with the government in the area of housing and sanitation in the slums of Ahmedabad using the microfinance approach, was emphasised. In regard to municipal bonds, the discussion highlighted the need for linking grants from GOI to such fund-raising efforts of ULBs. It was felt that the 13th Finance Commission has a crucial role to play in making the states implement the 73rd and 74th Amendments. Only the states that have implemented the SFC recommendations should be entitled to financial support of this nature. However, there was a view that LBs should not suffer because of the fault of the state governments. It was noted that quasi-governmental bodies such as Municipal Development Authorities are being merged with ULBs. Concern

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was expressed that the nagar panchayats are often neglected in the urban development discourse. A question about the ownership of JNNURM was raised; it was clarified that this programme is the result of a centre–state partnership. The discussion on SFCs’ conundrum for ULBs brought out the fact that the 13th Finance Commission feels that the case for possibly recommending a significant increase in allocation to ULBs is a persuasive one. The application of the Zakaria Committee norms may result in a big percentage jump in allocation. The suggestion of 1.24 per cent of GDP allocation to ULBs may not be feasible. The states have a larger role to play in the redistribution of the transferred funds, and hence the need arises for a suitable formula for inter se distribution to the municipalities. Further, what possibly could be the contribution of ULBs themselves? What figure could be arrived at for this purpose? Given the analysis made of SFCs, there was a strong view that constitutional provisions like Article 280 are carefully worded so as not to compromise the autonomy of the states. Otherwise, the federal structure may be affected. Flow of funds from the Finance Commission to the states does not actually take place under Article 280. As far as adhocracy is concerned—and this is true to an extent—the CFCs cannot access the data of PRIs directly. They have to go by the SFC reports. It is the responsibility of SFC to find a way for developing mechanisms to give finances to LBs. Even suggestions such as allocating 1 per cent or 2 per cent of GDP to ULBs or using the outdated Zakaria Committee norms are instances of adhocracy. However, it was argued that there is no time frame for submitting the SFC reports, hence the delay in submitting reports. Although the 10th and 11th Finance Commissions made recommendations for improving this situation, not much has changed actually. The constraints of SFCs also have to be understood as the outcome of very weak data pertaining to ULBs. ULBs themselves are not clear about their functions, and not much devolution has taken place as the states do not feel the compulsion to follow through.

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It was argued that some of the above criticisms of the analysis of the reports of SFCs pertaining to ULBs were very static. A complete break with the past approach is needed. The earlier Finance Commissions did not make empty gestures. Rather they sought to adopt more objective criteria, such as slum population. The allocations made indicate the recognition of the need to help ULBs in meeting their crucial requirements. More proactive steps are called for as we have a three-tier system of governance, and this is the reality. Unless adequate allocations are made, good governance will be a distant dream for ULBs. 8.0 WORKING OF THE STATE FINANCE COMMISSIONS The session sought to study critically the following issues with regard to the working of SFCs. How have SFCs been enabled or constrained in their functioning so as to evolve effective devolution of finances to PRIs? In the absence of the uniform availability of recommendations of SFCs for all states, is there a need to examine an alternative basis for determining the measures required to augment the finances of PRIs? What should be the principles and criteria for the Finance Commission for arriving at recommendations? How far have previous recommendations worked or not, with reasons thereof, in augmenting the resources of LBs? The session was chaired by Shri Sumit Bose. A presentation on a common template developed for SFCs was made. It was followed by a sharing of experiences and expectations by representatives of various SFCs. The presentations clearly identified the constraints being faced by SFCs. SFCs have received varied treatment from the state governments. In general, the state governments have not shown the seriousness required for running a constitutionally mandated institution like SFC to make it function effectively. SFCs have faced serious problems with regard to data availability and other support systems. Even in cases where SFCs have come up with useful recommendations, the states have shown a general laxity in accepting and implementing these. The participants made several suggestions for strengthening SFCs, including the use of a template for improving the quality of reports submitted by SFCs.

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Shri T. N. Srivatsava and Shri Dharmendra Shukla presented a draft Common Template for Making Recommendations by the State Finance Commissions. The template was developed by a group under a study commissioned by the 13th Finance Commission. Every state follows its own format, and it is difficult to analyse the reports across states. Non-synchronisation of presentation of facts is a major problem in analysing the SFC reports. Hence an attempt has been made here to develop a common template for preparing the SFC report. The following broad chapter scheme has been suggested in the template:

Chapter I : Introduction: Constitution of SFC, TOR, and design of the report

Chapter II : Approach, methodology, and issues Chapter III : Critical analysis of the states’ finances, with elaborate

details on the structure of the economy and a review of growth and development

Chapter IV : Review of the status of decentralised governance and devolution in the state, focusing on functional, financial, and administrative devolution

Chapter V : Assessment of the finances of PRIs at the three levels. This chapter will have sub-sections on the types of revenue generated, transfers from central and state governments, revenue and capital expenditures of PRIs, borrowings, net budgetary position, and a review of fiscal and financial management.

Chapter VI : ULBs and fiscal management. This chapter will cover trends in urbanisation. It will include an assessment of the finances of ULBs, nagar panchayats, municipal councils, and municipal corporations

Chapter VII : Review of debt position and management Chapter VIII : This chapter will include an assessment of the gap in

financial resources and the devolution scheme. The assessment will be done for rural local bodies and urban

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local bodies. The devolution scheme will incorporate assigned taxes, share in state taxes, share of PRIs and ULBs and inter se distribution, and grants-in-aid.

Chapter IX : General observations and concluding remarks

Chapter X : Summary of recommendations The template also provides an outline of the format for collecting required information from PRIs and municipalities by SFC for preparing its report. The format covers all major items pertaining to revenue, expenditure, and borrowing of local bodies at all levels. 8.1 Sharing by SFC Representatives SFC West Bengal: Dr. Sukhbilas Barma, Chairman of the third SFC of West Bengal, shared his experiences and views on the working of SFCs. LSG institutions have been given constitutional status as the third-tier government. The emergence of transfers not based on any formula has been an important development in Indian fiscal federalism. The transfers are largely random and not formula based. LBs are overly dependent on transfers, which reflects largely the priorities of the central and state governments. All these factors have reduced the GP to an institution of great insignificance. Speaking about SFCs, Dr. Barma said that there are wide variations across the states regarding the number of members, qualifications of members, working time given, effective time given for implementation, and the TOR; it is difficult to explain these differences. When it comes to the actual implementation of the recommendations, the state governments appear to have treated the SFCs with scant respect. The experiences of the SFCs have shown that the devolution of functions and the expenditure assignments by the state governments have generally not taken place, and that the transfer of state government staff to LBs has also remained on paper only. The experience of West Bengal is also largely similar, where three SFCs have so far been constituted. The third SFC found that the state government has not formally devolved functions by issuing notifications. Virtually no recommendation of the previous commissions has been implemented. No step has been taken for the proper manning of the panchayat administrative units. Funds in the name of the panchayats were

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released to the zilla panchayats through the departments. The initiatives of LBs for generating own revenue have been found to be utterly lacking. The initiative taken by the state government for framing by-laws for the panchayats was also much delayed. On the subject of assignment of taxes, the state government, despite assurance in the ATR (Action Taken Report), has not taken any action. The major problem faced by the SFCs is a lack of reliable data, both from the state government and the LBs. The state governments have also not provided correct information about the devolution of functions and functionaries, having even furnished incorrect information to CFC to get resources to the LBs. The 13th Finance Commission should, therefore, carefully ascertain the extent to which the states have implemented the recommendations of SFCs. Grants to states should be made conditional on the actual implementation of constitutional provisions. SFC Bihar: Shri D. R. Mehta, Chairman, Fourth State Finance Commission, Bihar, in his note ‘Issues Before the Finance Commission: Empowering the Panchayati Raj Institutions’, argued that despite the 73rd Constitutional Amendment, on the financial side not much has been done for PRIs. The devolution of funds has been meagre and the PRI representatives are apprehensive of losing elections to these bodies by imposing taxes. PRIs are not in a position to provide even the most elementary needs of their inhabitants, leading to growing inequality. Against this backdrop, the empowerment of PRIs through adequate financial allocation thus becomes important. The first level is the augmentation of own resources of PRIs. As PRIs are mostly reluctant to impose taxes, it is time to get realistic. An alternative is that tax is levied by the state government and recovered by PRIs for transferring to PRIs. It should be explored whether each PRI can raise non-tax income. PRIs should be encouraged to create permanent revenue-generating assets for which they should get credit from the banks. An Infrastructural Credit Corporation for PRIs could be created for funding such projects. Equity should be provided by the state governments apart from the allocation recommended by CFC.

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Shri Mehta argued that the 13th Finance Commission should consider the following: 1. While assessing needs, a normative approach should be adopted. The

requirement of funds for providing a minimum level of civic amenities and basic needs of the rural population in a reasonable time should be worked out. Further, the dovetailing of various existing schemes should be made possible. A clear direction and time frame should be set to meet minimum basic needs.

2. The staff capacity of PRIs should be built up. CFC and SFC should

consider recommending adequate grants for PRIs to meet the cost of salary and other charges due to the employees of PRIs.

3. The overall grant recommended by the 13th Finance Commission should at

least be double (2.50 per cent) of what was recommended by the 12th Finance Commission (1.24 per cent) of the net tax revenue.

4. As in the case of CFC, the recommendations of SFC too should be

accepted by the state governments. SFC Assam: Shri H. N. Das, Chairman of the third SFC, made a presentation on SFC Assam. The Government of Assam has yet to take a formal decision on the Report of the third SFC, and there is no indication at all about the formation of the fourth SFC. Synchronising the periods of CFC and SFC is important as this can result in many SFCs being covered by a partial segment, leading to the problem of ‘vacant years’. During vacant years, non-Plan financial devolution is not available normally to PRIs and ULBs unless the concerned state government has made special fund allocations. Under the present constitutional arrangement, there seems to be no possibility of direct devolution of funds from GOI to PRIs and ULBs. However, such direct devolution is essential. It requires the recognition of PRIs and ULBs as local governments. The 13th CFC should recommend amending the Constitution to make direct transfers possible. There is a need for consolidation and convergence of Plan funds under PRIs and ULBs through District Planning

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Committees. The 13th Finance Commission will have to provide adequate non-Plan funds to PRIs and ULBs. SFCs are constrained in their functioning by the non-availability of quality data for producing good reports, especially in Assam; allocation of adequate funds will be required for meeting this purpose. Assam has a special problem in three Sixth Schedule Autonomous District Councils as there are no PRIs. It is not possible to make arrangements for the devolution of funds in these areas through SFC. The formation of PRIs under a constitutional amendment needs immediate attention. Assam also has six Autonomous Tribal Councils and seven Development Councils for seven ethnic groups. The proper devolution of funds and grants for special problems or bodies will have to be made by the 13th Finance Commission. Revenues for the development of PRIs and ULBs can be augmented considerably if extra-constitutional bodies are merged with these. SFC Uttarakhand: Dr. G. C. Srivastava described the major findings of the second SFC of Uttarakhand, chaired by him, and which submitted its report in 2006. The recommendations of the report were accepted by the state government and an ATR was placed before the state legislative assembly. The second SFC made an assessment of the revenues and needs of LBs on a summary basis. The commission aimed to work out a scheme of transfers on a normative basis by taking into account the differential revenue efforts and needs of LBs that could serve the twin objectives of equity and efficiency. The commission also made recommendations regarding assignment and appropriation of revenue resources and grants-in-aid to LBs in accordance with the targets and guidelines given in the state’s own Fiscal Responsibility and Budget Management Act, 2003. In regard to vertical transfer, the second SFC allocated enough funds to LBs to enable them to make provision for basic services at an acceptable level. The commission fixed the share of ULBs at a higher level of 40 per cent to take care of the additional population, whereas the remaining 60 per cent was recommended for panchayats. The commission devised a set of devolution criteria, correcting the cost disabilities and also fostering fiscal efficiency. For inter se distribution, the commission constructed the deprivation index and the remoteness index, giving equal weight to factors that have a cause-and-effect relationship with geographical location. The share of each ULB in the district and the share of each of the three tiers of the

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panchayat were worked out by assigning 50 per cent weight to population, 15 per cent to area, 10 per cent to the deprivation index, 15 per cent to the remoteness index, and 10 per cent to tax effort. It was recommended that an additional stamp duty should be imposed uniformly in both rural and urban areas, to be passed on fully to the LBs. Twenty per cent of the development charges and fee for building permission was also to be passed on to the LBs. Similarly, land revenue was to be passed on to GPs. Consumption charges for street lights were to be recovered in the form of a cess to be levied by the state government on the energy charges to be paid by all consumers. The second SFC devised an incentive scheme to reward a LB for its improved performance in the future. The reward shall be disbursed to the LB within three months of the close of the financial year in which the norm is achieved. The commission recommended the creation of an ‘incentive fund’ with a core amount of Rs. 50 crore. It recommended strengthening LBs through a clear demarcation of the functions of the three tiers of the panchayat, and it placed the van panchayat under the overall guidance of the GP. The constitution of district planning committees, amendment for the abolition of the audit fee for auditing the accounts of LBs, and rotational convening of the gram sabha in each revenue village were some of the other suggestions made for strengthening LBs. The second SFC also expected the 13th Finance Commission to look into some of the following issues or concerns: recommend to CAG that it should issue directions for the proper classification of tax and non-tax receipts of the states; look at ways of helping to calculate ‘net proceeds’ from taxes at the state level; set up an independent national agency to facilitate data collection and processing and to support exchanges among different SFCs; ensure that regular audit of LBs by CAG is extended to cover other non-Plan funds; in the light of the implementation of recommendations made by the 12th Finance Commission, assess any shortage of funds that need to be made up at least for the last year of the commission’s award; and assess the requirement of funds for capital works of LBs and provide grants to the states accordingly to supplement resources.

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SFC Kerala: A brief write-up on the Present Status of the Constitution of the State Finance Commissions in Kerala, prepared by the Principal Secretary (Finance), Government of Kerala, was presented at the conference. The devolution efforts in Kerala have already crossed the experimental phase and are now firmly institutionalised. This has led to the devolution of substantial development funds together with the allocation of responsibilities to LSGs for the preparation and implementation of local projects. SFC is appointed by the state government well before it is due to be constituted, and its recommendations are considered seriously and accepted by the government. So far, Kerala has constituted three SFCs within the award period of five years for each commission. The state government currently has been transferring resources to LSGs as per the recommendations of the third SFC. The three SFCs constituted in the state have been headed by individuals of eminence in their respective fields. Total funds recommended by the third SFC for devolution to LSGs are to the tune of Rs.12,515 crore. LSGs in Kerala have assumed their full responsibility; they work shoulder to shoulder with the state government to further the process of development. The state government should certainly be the team leader. The state government not only commits such funds but also releases them regularly as per a schedule known to LSGs so that they can regulate their expenditure. The state government has dispensed with the term ‘grants’ for resource transfer as per the recommendation of the third SFC as the term connotes an element of superiority and inferiority. Discussion: The SFC representatives in general welcomed the template as it would help them in streamlining their work. The template presented by Prof. Mathur was also considered in this regard. It was suggested that the states should be allowed to modify the template to suit their own particular needs, instead of having to follow a standard format in all cases. At the GP level, where the problem of understaffing exists and where personnel do not even know of SFCs, it was found that the template has too many details. It may be difficult for PRIs to furnish such detailed data. The template should also have a provision for making recommendations for future SFCs. It was suggested that the template should even be included as part of the TOR for SFCs. However, it

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was felt that this may not be possible as the TOR for SFCs is as per the Constitution. On the matter of qualifications for SFC members, it was noted that such qualifications are well laid out but are not adhered to. A suggestion was made to set up a ‘cell’ in each state to ensure effective and efficient data availability, as in Kerala. In the case of West Bengal and Uttarakhand, although the SFCs concerned recommended the establishment of such ‘cells’, these have not been set up so far. The question of notifying the authorities for SFCs was raised—whether this should be the governor or the Finance Department—as there are variations across the states. Regarding the Sixth Schedule areas, although these are out of the purview of the Finance Commission, the Finance Commissions are nevertheless making recommendations concerning them. It was emphasised that the role of PRI bodies should be evaluated at regular intervals to monitor whether they are performing or not. This is because once the SFC report is submitted, the PRIs become insulated from any monitoring, thus posing a problem. There is a need to have continuity in the SFC processes. It is not possible to achieve effective performance under the present arrangement where SFCs are constituted for a single term. The discussant for the session, Dr. Alok, made the following suggestions and remarks. The synchronisation of the period between the Finance Commission and SFCs may not be possible as the constitution of SFCs every fifth year is not possible under Article 348. There is no time frame for the presentation of the ATR on SFCs, which actually kills all the initiatives of SFCs. The states can have some sequencing of SFCs with that of CFC. In regard to Kerala, the quality of the SFC report is questionable in terms of the data given. Data presented in the report are in the form of ratios, but no actual data are given, which creates a problem in making sense of the real situation. Hence the template for SFCs presented at the conference is a good effort, though it needs simplification. 9.0 CONCLUSION: LESSONS FOR THE 13th FINANCE COMMISSION The session was chaired by Prof. Indira Rajaraman, who complimented IRMA and the coordinators for a well-organised conference. Prof. Rajaraman in her

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summing up identified the lessons and outcomes of the conference and also made some suggestions for the authors to consider while revising their papers. On the quantum of transfers to LBs, there seems to be a consensus that it should go up. However, the exact extent of the transfers has not been made clear. The basis for the quantum to be transferred also needs to be justified by the authors, even if it is on a normative basis. A sense prevails that the 13th Finance Commission should recommend transfers to LBs, not in absolute but in relative terms. About the operationalisation of the recommendations of the 12th Finance Commission, many deviations have occurred between the guidelines and actual practice. There is a need to understand the roadblocks in implementing the recommendations of the 12th Finance Commission. Not much discussion could take place on this issue at the conference except for a few remarks and comments. The authors of the papers should take note of this while making revisions. Coming to the theme of Financial Devolution to PRIs and Incentivising the States, a major issue is about using the states as an effective pass-through agent for delivering funds to LBs. How can the Finance Commission effectively address the issues concerning such a mechanism? There is a 15-day transition period for the states to transfer funds to avoid delays. However, there are variations across the states regarding responses to the requests for funds. The Deputy CAG’s paper suggests that states have no absolute incentive to work. How and why should the Finance Commission design the funds flow under such circumstances? The Finance Commission welcomes any suggestion in this regard from the authors. The state budgets do not have specific heads to account for these funds. There is an absence of accounting uniformity in the budget. One has to look at the CFC reports to find out about the quantum of funds given to LBs; this creates a lot of accountancy-related problems at the state level. Hence the accounting structure needs a lot of attention, especially by CAG. The funds flow to LBs does not have a mechanism to distinguish between rural and urban LBs. The authors should also suggest a number or percentage for the sharing of resources

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between PRIs and ULBs based on some references or calculations that will help the Finance Commission to decide and defend the value. People will ultimately suffer if a state fails to implement devolution measures effectively. How can one address the issue when it comes to incentivising a best-performing state? It is also necessary to explore how the existing state and central government schemes can be used for local welfare, mainly by employing LSGs for better implementation. As no best practices documentation has been done with respect to ULBs or PRIs, YASHADA’s best practices documentation report is keenly awaited by the Finance Commission. Local revenue raising in states such as Bihar may be challenging or difficult. But there are also alternative experiences. For example, non-tax revenue can be generated even in poor states like Orissa. Wherever states have listed certain obligatory taxes, good results have been seen. Local revenue potential needs to be capitalised. The poor need not be burdened. But taxes are essential for creating stakes among the stakeholders. With regard to the working of SFCs, the Finance Commission hopes to have a good template, which is simple too. The design features highlighted at the conference have been identified as factors responsible for the failure of SFCs. The idea of forming a common forum/cell for SFCs where they can share and learn from each other is welcome; this should also help in the continual updating of the state data. A clear time frame for the submission of SFC recommendations, and for their acceptance or rejection by the state government, needs to be mentioned in the TOR and thereafter followed strictly. The session on capacity building of PRIs revealed that generally a very low capacity exists at the GP level. At least a secretary and another staff member are needed at the LB level. The cost per participant trained by institutions like KILA and the annual budget requirement for such capacity-building initiatives need to be clarified. The accounting structure is so opaque that it is difficult to penetrate at the state level. There is a need for a better database. The National Accounts Framework needs to take cognisance of this fact. The synchronisation of accounts across

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the three levels of local self-government (LSG) and across the states for the purposes of easy reference and calculation is essential. Regarding the ratio for the allocation of central government funds between urban and rural areas, a standard should be followed for easy comparison between states. As regards the analysis of the constitutional asymmetry in devolution between the centre and the states, in spite of the clarification regarding the words ‘may’ and ‘shall’ in reference to the recommendations of SFCs and CFC, what matters is the earnest implementation of the same. CFC cannot base its recommendations solely on the SFC reports due to problems of synchronism and poor quality. SFCs are independent bodies and decide on their own discretion about the needs and claims of LBs. CFC has divorced itself from the SFC reports. Even if the SFC reports are perfect, the 13th Finance Commission cannot go by them entirely. The principles of public finance suggest that CFC should ensure uniformity, cutting across the states, from a macro perspective, and should also adjust for cost differences and fiscal capacities. The SFC data can feed into CFC. Hence, a template for SFCs becomes important. 9.1 Summary of Major Recommendations The major recommendations made by the conference to the 13th Finance Commission are summarised below. 1. The 13th Finance Commission should attempt to restructure the fiscal

federalism system by taking into account the third stratum in its analytical framework of public finance. There is a need to break away from the earlier ad hoc approach based on the assumption of neutrality or of treating decentralisation as a zero-sum game.

2. The 13th Finance Commission should identify the probable own fiscal

domain, tax and non-tax, for different types of local governments. Since the contribution of local governments to public expenditure is still low (5–6 per cent), the Finance Commission should set a target for enhancing the share of local government expenditure to 15 to 20 per cent in the short run.

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3. The 13th Finance Commission should evolve a realistic index of decentralisation capturing praxis rather than intention. It may be prudent to limit the index to two criteria viz. (1) the share of investable funds devolved to local governments; and (2) the share of own funds as a percentage of own resources of the state government, relying on verifiable accounts.

4. Although it is not plausible to incorporate gender variables into the transfer

formula of the Finance Commission, the transfer system should play a role in upholding gender equity. A penalty criterion should be incorporated into the unconditional fiscal transfers in order not to reward the states with adverse juvenile sex ratios. The 13th Finance Commission should assign transfers to the states that have already initiated local-level gender responsive budgeting (LLGRB).

5. The 13th Finance Commission should take steps to design a rational

transfer system by taking local governments into account. It could recommend the allocation of 5 per cent and 3 per cent of the divisible pool of the centre to PRIs and ULBs respectively. The horizontal distribution of the above fiscal transfer among the states should be based on a few simple parameters. The formula for the distribution of the share within a state should be left to the respective SFCs, including the decision about the share of rural and urban local bodies.

6. The 13th Finance Commission should consider improving the functioning of LBs by a general increase in the total quantum of funds transferred. The 13th Finance Commission should assess the need for funds for providing a minimum level of civic amenities and basic needs of the rural population by adopting a normative approach. A clear direction and time frame should be set to meet the basic needs. The overall grant recommended by the 13th Finance Commission should at least be double (2.5 per cent of net tax revenue) of what was recommended by the 12th Finance Commission, including meeting the cost of salary and other charges due to PRI employees. There should be an arrangement for the automatic transfer of funds to LBs through the state government more as an entitlement to bring about predictability.

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7. To ensure quality of services at the local level, the 13th Finance Commission should create an Asset Renewal Fund. For maintenance of assets, it should provide recurring and special grants.

8. The 13th Finance Commission should recommend the operationalisation of

the recommendations of the 11th Finance Commission to enhance the ceiling on professional tax and to tax central government properties.

9. The states should be offered substantial incentives to move them forward

on the path of decentralisation. This includes measures such as linking the release of assistance under centrally sponsored schemes to decentralisation and the setting aside of at least 5 per cent of the divisible pool for being transferred to the states for passing on to local governments. Special grants under Article 275 (1) could be given to states that perform well in the area of decentralisation. While providing incentives, care should be taken to avoid major macro imbalances.

10. At the state level, PRIs should be enabled to make sincere efforts to

maximise revenues from tax and non-tax sources. Local tax collections can be increased by improving administrative capacity. There is a need to adopt a system of providing incentive-based grants based on the tax efforts made by LBs. The acts that work as barriers in augmenting the resources for panchayats should be amended. PRIs at the three levels should be given resource-mobilisation responsibilities, including taxation. No institution should be designated an institution of expenditure. Wherever PRIs are reluctant to impose taxes, as an alternative course of action, the taxes could be levied by the state government and recovered by PRIs for transferring to PRIs.

11. An Infrastructural Credit Corporation for PRIs to fund the asset

development projects of LBs should be created. An apex corporation should be created for helping PRIs raise loans to meet their needs.

12. The approach of SFCs towards ULBs has been highly inadequate. The 13th

Finance Commission should be more proactive towards ULBs. SFCs could adopt an indirect approach by taking the expenditure levels of ULBs into

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account and by using the Zakaria Committee norms for core services to provide support to the extent of 1.24 per cent of GDP.

13. ULBs should look for alternative sources of financing, including market-

based financing through bonds. The critical factor will be obtaining an investment-grade credit rating for municipal bonds, which will require ULBs to have a sustainable revenue base. The state governments will have to implement many ULB reforms to achieve this goal. The 13th Finance Commission should support these reforms.

14. There is a strong need to improve financial management and accountability

in the PRI system. The 13th Finance Commission can help in capacity building by providing support or funds to enable a meaningful compilation of accounts by PRIs, to firm up accounting formats and standards, to switch over to accrual accounting in due course, to ensure competent scrutiny of PRI accounts, to facilitate audit inferences, and to frame a phase-wise programme for the liquidation of arrears of accounts, including timely legislative reviews; to stress the need for broadening the role of CAG in the regular statutory audit of PRIs through necessary amendments to the relevant acts; and to help build an interactive electronic network linking accounting, auditing, reviewing, financing, and monitoring centres.

15. The 13th Finance Commission should recommend to CAG that directions

should be issued for the proper classification of tax and non-tax receipts of the states, for looking at ways of helping and calculating ‘net proceeds’ from taxes at the state level, and for taking up the regular audit of LBs by CAG covering other non-Plan funds.

16. Developing appropriate administrative structures for LBs should be the

mandate of the central government also. The total cost of establishing LBs, which is currently borne by the state governments, should be shared between the central and the state governments, preferably in the ratio of 75:25. The 13th Finance Commission should give its attention to this area.

17. Regarding concerns about constitutional asymmetry, it has been suggested

that there is a need for a more purposive and context-based interpretation of

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the Constitution, which can help in enhancing and strengthening the third stratum by appropriate institutions of governance, including the Finance Commission.

a) The Finance Commission need not feel hamstrung because of the

working of SFCs. It should carry out its constitutional mandate of augmenting and supplementing the resources of panchayats and municipalities. It is possible to recommend direct devolution of funds to institutions of LSG based on certain best practices without any constitutional amendments, which are arduous and have high transaction costs. The practical way of doing this is by incentivising devolution by linking revenue and grants with the decentralisation index, reflecting autonomy, legitimacy, and social capital.

b) In regard to PESA, the Finance Commission may allocate financial

resources if it feels that the powers of the gram sabha have been preserved. In the absence of the gram sabha, the Finance Commission may rely upon its mandate to adopt a need-based approach for providing assistance.

c) The 13th Finance Commission should help CAG so that it may enter

into agreements with the state governments. There is wiggle room for CAG to use the courts to take on the responsibility of auditing the accounts of LBs.

18. The term measures in Article 280 (3) (bb and c) offers extensive scope for

intervention by the Finance Commission, even to include legislative, administrative, and financial measures. To remove any ambiguity, an amendment to Article 266 defining the role and function of a Consolidated Fund of a state, similar to the Consolidated Fund of India, will be useful.

19. The financial devolution arrangement that exists in India is constitutionally fixed. Constitutionally, there is no scheme for transferring funds directly from the centre to the local governments bypassing the states. Although direct fund transfer may bring about more efficiency, it may weaken the federal structure. There is a need to strike a balance between economic

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rationality and political expediency. Direct fund flow may not always strengthen the devolution process.

20. Funds for local development should be routed through PRIs instead of through various statutory and non-statutory bodies whose activities greatly overlap with those of the panchayats. All the parallel bodies should be abolished and funds should flow directly to LBs through the state government. The union government should help PRIs in building an administrative structure for delivering various services.

21. The Finance Commission may go beyond the reports of SFCs in arriving at

its recommendations, but will do so without compromising the autonomy of the states. The 13th Finance Commission should help in enabling SFCs to fulfil their mandate.

22. The work of SFCs needs to be strengthened and streamlined in many ways.

The methods and approaches of SFCs need to be standardised. SFCs could use templates to assess their needs and to prepare their reports more systematically and uniformly. SFCs are hampered in their efforts to produce good reports by the non-availability of quality data. The Finance Commission should consider allocating adequate funds for this purpose.

23. The Finance Commission and SFCs should be constituted simultaneously.

Synchronising the periods or terms of the Finance Commission and SFCs can help avoid the problem of ‘vacant years’ in transfers.

24. There should be a SFC cell in each state to ensure effective and efficient

data collection and availability. This cell should also evaluate and monitor PRIs at regular intervals. An independent national agency to facilitate data and support exchanges among different SFCs should be set up.

25. In the Sixth Schedule areas, it is difficult for SFCs to devolve funds in the

absence of PRIs. This requires suitable attention. The proper devolution of funds and grants for special areas or bodies will have to be made by the 13th Finance Commission.

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Annexure -1

Issues Before the Finance Commission: Empowering the Panchayati Raj Institutions (PRIs)

December 22-23, 2008 Conference Schedule

Time Schedule Chair, Discussant,

and Rapporteur Day 1 December 22, 2008 (Monday) 09.30–10.00 Registration Programme Office

10.00–10.30

Inauguration: Welcome by Dr. Vivek Bhandari Director, IRMA Inauguration by Shri Vijay Kelkar Chairman, 13th Finance Commission Keynote by Dr. Y. K. Alagh Chairman, IRMA

Technical Sessions

10.30–11.30 Session 1: Reviewing PRI Issues before the 13th Finance Commission

Chair: Shri Vijay Kelkar

1. Dr. V. N. Alok: Devolution of Resources to Local Governments: Role of the 13th Finance Commission

Discussant: Prof. Abhay Pethe

2. Shri S. M. Vijayanand: Strengthening Local Governments: Possible Role of the 13th Finance Commission

Rapporteur: Ms Smriti Das

11.30–11.50 Tea Break 11.50–13.00 Session 1: Continued

3. Prof. M. A. Oommen: Towards a Conceptual Framework for Fiscal Decentralisation to Sub-state Level Governments

4. Dr. Lekha S. Chakraborty: Determining Gender Equity in a Federal Setting: Analytical Issues before the 13th Finance Commission

Presented by Prof. Ila Patel

5. Shri M. N. Roy: PRIs in West Bengal

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13.00–14.00 Lunch break

14.00–15.40 Session 2: Devolving Funds and Functions to PRIs: Incentivising the States

Chair: Prof. Atul Sarma

1. Dr. G. Palanithurai: Financial System and Processes for Local Governance in Tamil Nadu

Discussant: Prof. D. P. Mishra

2. Dr. P. K. Das and Dr. S. Mukhopadhyay: Decentralisation and Service Delivery: A Study in the Rural Governance of the Gram Panchayats in West Bengal

Rapporteur: Shri P. K. Mishra

3. Dr. M. D. Babu and Dr. N. Sivanna: Panchayat Finances: Structure and Trends in Karnataka

15.40–16.00 Tea Break

16.00–17.30

Session 3: Capacity Building and Constitutional Asymmetry in Devolution and Interstate Comparisons of PRI Acts

Chair: Prof. M. A. Oommen

1. Prof. N. Remakantan: Towards Accountable Fiscal Freedom: Capacity-building Initiatives in Kerala

Rapporteur: Shri G.G. Koppa

2. Shri S. Ray and Shri T. A. Shivappa: Accounting Practices, Database, and Capacity Building of PRIs

3. Dr. Rahul Singh: Law and Economics of the Third Stratum: Constitutional Text and Context

4. Dr. T. M. Joseph and Dr. J. Chatukulam: Financial Devolution to Local Governments: Economic Rationality versus Political Expediency

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Day 2

December 23, 2008 (Tuesday)

09.30–11.00 Session 4: Financial and Functional Devolution of Urban Local Bodies

Chair: Dr. G. C. Srivatsava

1. Shri Sumedh G. and Shri V. Ramani: Best Practices in Urban Bodies

Rapporteur: Shri Saikrishna

2. Shri Chetan Vaidya: Market-based Financing of Urban Infrastructure in India

3. Prof. O. P. Mathur: SFCs’ Conundrum—SFC Recommendations for Urban Local Bodies

11.00–11.30 Tea Break Session 5: Template for SFCs and

Sharing by SFCs Chair: Shri Sumit Bose

11.30–13.00

1. Shri T. N. Srivastava and Shri D. Shukla: A Template for SFCs

2. Sharing by SFC Authorities and

Representatives Assam - Shri H. N. Das Bihar - Shri D. R. Mehta West Bengal - Shri S. Barma

Discussant: Dr. V. N. Alok Rapporteur: Shri D. Yeshwant

13.00–14.00 Lunch break

14.00–15.30 Sharing by SFC Authorities and Representatives: Continued

Chair: Shri Sumit Bose

Kerala: Sharing of Note by the Government of Kerala Madhya Pradesh: Shri D. Shukla Uttarakhand: Shri G. C. Srivatsava

Discussant: Dr. V. N. Alok Rapporteur: Shri D. Yeshwant

15.30–16.00 Tea Break

16.00–17.00 Session 6: Lessons for the 13th Finance Commission: Open Discussion and Conclusion

Chair: Dr. Indira Rajaraman

Vote of Thanks Dr. H. S. Shylendra

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Annexure - 2

List of Participants

Sr. No.

Name of the Participants Institution/Organisation

1 Dr. Vijay Kelkar

Chairman 13th Finance Commission, 4th Floor 18–20, Hindustan Times House Kasturba Gandhi Marg Connaught Place New Delhi 110001

2 Dr. Indira Rajaraman Member 13th Finance Commission New Delhi

3 Prof. Atul Sarma Member 13th Finance Commission New Delhi

4 Shri Sumit Bose Secretary 13th Finance Commission New Delhi

5 Shri V. Bhaskar Joint Secretary 13th Finance Commission New Delhi

6 Shri B. S. Bhullar Joint Secretary 13th Finance Commission New Delhi

7 Shri P. K. Verma Director 13th Finance Commission New Delhi

8 Shri Manish Gupta Deputy Director 13th Finance Commission New Delhi

9 Shri J. D. Dave

Under Secretary Finance Department Government of Gujarat Gandhinagar, Gujarat

10 Shri Y. A. Kulshreshtha

Deputy S.O. (S.A.) Finance Department Government of Gujarat Gandhinagar, Gujarat

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11 Shri D. R. Mehta

Chairman Fourth SFC, Bihar B-5, Mahan Udyan, Bajaj Nagar Jaipur 302015 Rajasthan

12 Shri Sukhbilash Barma Ex-Chairman SFC West Bengal

13 Shri H. N. Das

Ex-Chairman SFC, Assam “Adelaide”, 281 Zoo Navangi Road Guwahati 781024, Assam

14 Dr. G. C. Srivastava

Ex-Chairman SFC, Uttarakhand Chancellor SVS University Subhantipura Meerut, Uttar Pradesh

15 Dr. V. N. Alok

Associate Professor Indian Institute of Public Administration Indraprastha Estate Ring Road New Delhi 110002

16 Prof. M. A. Oommen Institute of Social Science Thiruvananthapuram Kerala

17 Shri S. M. Vijayanand

Secretary Local Self Governance Government of Kerala Thiruvananthapuram, Kerala

18 Shri M. N. Roy

Secretary Government of West Bengal KB 2/5, Sector III, Salt Lake Kolkata, West Bengal

19 Shri S. Ray Deputy CAG O/o The CAG of India New Delhi

20 Shri T. S. Shivappa

Director (LB) O/o The CAG of India New Delhi

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21 Prof. N. Ramakantan Director Kerala Institute of Local Administration Thrissur, Kerala

22 Shri Rahul Singh

Assistant Professor of Law National Law School of India Bangalore 560072 Karnataka

23 Dr. T. M. Joseph Principal Newman College, Thodupuzha Idukki – 685585, Kerala

24 Dr. M. Devendra Babu

Assistant Professor Institute for Social and Economic Change (ISEC), Nagarbhavi P.O. Bangalore 560072

25 Dr. P. K. Das

Fellow in Economics Centre for Studies in Social Sciences Kolkata R-1 Baishnabghata Patuli Township Kolkata 700094 West Bengal

26 Shri Sumedh Gurjar

Director Research and Development Centre YASHADA, Raj Bhavan Complex Baner Road Pune 411007, Maharashtra

27 Sri Chetan Vaidya Director NIUA, Zone IV, Lodhi Road New Delhi 110003

28 Prof. O. P. Mathur

Principal Consultant National Institute of Public Finance and Policy 18/2, Satsang Vihar Marg Special Institutional Area New Delhi 110067

29 Dr. Abhay Pethe

Director & Professor Dr. Vibhooti Shukla Chair Unit in Urban Economics and Regional Development University of Mumbai Mumbai 400098, Maharashtra

30 Shri T. N. Srivastava B-22, Char Imli Bhopal 462016, Madhya Pradesh

64

31 Shri Dharmendra Shukla

Ex-Member Secretary SFC, Madhya Pradesh Chief Conservator of Forests Van Bhawan Bhopal, Madhya Pradesh

32 Shri U. K. Shukla

Indira Gandhi Panchayati Raj & Gramin Vikas Sansthan (SIRD, Rajasthan) J.L.N. Marg Jaipur 302004, Rajasthan

33 Shri P. K. Bhatnagar Under Secretary Ministry of Panchayati Raj Government of India New Delhi

34 Dr. Y. K. Alagh Chairman Institute of Rural Management, Anand (IRMA) PB No. 60, Anand 388001 Gujarat

35 Dr. Vivek Bhandari Director, IRMA

36 Prof. B. N. Hiremath Professor, IRMA

37 Prof. Debiprasad Mishra Professor, IRMA

38 Dr. H. S. Shylendra Professor, IRMA

39 Shri Shriprakashsingh Rajput Research Associate, IRMA

40 Shri D. Yeshwant FPRM Participant, IRMA

41 Shri G. G. Koppa FPRM Participant, IRMA

42 Shri Sai Krishna Nanduri FPRM Participant, IRMA

43 Ms. Smriti Das FPRM Participant, IRMA

44 Shri Rajesh Kumar FPRM Participant, IRMA

45 Shri Pradeep Kumar Mishra FPRM Participant, IRMA