Recommendations of the 16th Finance Commission

The 16th Finance Commission's report, released with the Union Budget for 2026-27, has sparked various comments, primarily focusing on the lack of increased vertical devolution of central taxes and the exclusion of cesses and surcharges in the divisible tax pool. Despite demands to abolish centrally sponsored schemes (CSS) for more state autonomy, the Commission introduced several changes in the devolution formula.

Key Changes in Devolution Formula

• Horizontal Devolution Criterion: Introduced a new parameter accounting for states’ contributions to national GDP with a 10% weight.
• Weight Adjustments:
  • Area reduced from 15% to 10%.
  • Demographic performance reduced from 12.5% to 10%.
  • Income distance reduced from 45% to 42.5%.
  • Population weight based on the 2011 Census increased from 15% to 17.5%.
  • Forest area’s weight remained unchanged at 10%.

The changes aim to prioritize performance-based criteria, such as GDP contribution, while maintaining equity. Specific parameters include:

• Area: Refers to the land size of a state.
• Demographic Performance: Captures a state's success in controlling fertility rates.
• Income Distance: Measures the gap between a state’s per capita GSDP and the average GSDP of the top three states.

Impact on States

The recommendations have significant political economy implications:

• Southern states, previously concerned about unequal treatment, saw an increase in their share of central taxes.
• Five southern states—Andhra Pradesh, Karnataka, Kerala, Tamil Nadu, and Telangana—had their shares increased.
• Other states like Assam, Gujarat, Haryana, and others also gained, while northern states like Bihar, Madhya Pradesh, and Uttar Pradesh saw decreases.
• Revenue-deficit grants are being phased out, affecting states like West Bengal, Himachal Pradesh, and others more significantly than southern states.

Political Economy Implications

The redistribution benefits southern states politically and economically, raising questions about future electoral dynamics:

• Potential delimitation of constituencies post-2027, post-Census, could increase northern states' electoral influence due to faster population growth.
• The balance between economic power for southern states and electoral power for northern states remains a critical political economy challenge.

The 16th Finance Commission's recommendations address a significant political economy issue, potentially impacting future political strategies and governance.