The Problem of Imbalance in Financial Resources

The Problem of Imbalance in Financial Resources:

Causes of Imbalance:

It has been observed that the problem of imbalance in the allocation of financial resources and functions between the center and all state governments generally arises because almost all important and elastic sources of revenue like customs, income tax, corporation tax, etc., are allocated to the Federal Government on the consideration of administrative efficiency. On the consideration of autonomy, State Governments are assigned expenditures on social and developmental items. Thus, in practical life, it has been found that federal revenue grows more quickly than state revenues and state expenditures grow more quickly than the federal, while resources have increased in the account of the Federal Government, the need for spending has increased in the account of Regional Governments. As a result, the Federal Government has the resources and the States have responsibilities. Hence there is an imbalance in the federal financial system.

This imbalance has led to a general strain. Even in a well-established federation, this problem exists. This has been due to the fact that Federal and State Governments had limited functions and utilize resources of revenue which were fairly separate. The scope of government now has expanded everywhere and the original division of functions and resources has been characterized as belonging to the “Horse and
Buggy Period”. With the expansion of functions, Union Government (Central Government) began to encroach upon the tax revenues of the Regional Government, and the Regional Governments, in turn, have been faced with growing maladjustments between resources and functions.

There is one other aspect of this problem, there are differences in the levels of economic development leading to marked disparities in income and wealth of the constituent units. In this context, Mr. K. V. S. Shastri said that “the question of financial imbalances is made worse by the fact of inter-regional inequalities in economic development and fiscal capacity.” Thus, for bringing nationwide uniformity in
economic and social development, there will be greater than average financial strain for the poorer states in a federation, and, therefore, the ideal of “Welfare State” may suffer. Thus, financial resources are in paucity, where they are needed most.

With the growth of activities of the modern state on the one hand and the lopsided allocation of financial resources on the other, it becomes inevitable to make adjustments to the financial system of the federation. However, there cannot be any final solution to the problem. There can, however, be adjustments, reallocations, or transfers of resources in the light of changing circumstances.

How to Remove Imbalances:

The financial imbalance between Federal and State Governments may be corrected either by transferring some functions from Central to State Governments or by transferring some resources from Federal Governments to State Governments. However, no developing society can afford a rigid division of powers and functions. If there are great inequalities in the economic and social development of different constituent units, and it is desired in the national interest to mitigate them, the Federal Government may undertake the function which lies in the sphere of Regional Governments, Switzerland provides an example of such adjustment. Functions, such as social security, can easily be transferred to Federal Government. This was also to bring uniformity in the standard of social service. But this step may generally be opposed by the State Government on the ground of interference with autonomy.

The problem of imbalance between Federal and State Governments can be solved by transferring certain federal taxes to the State Governments. But, this is opposed on grounds of uniformity of rates and administrative efficiency. However, if it is thought highly important to maintain the rights of the States vis-a-vis those of the Federal Government, one should favor as much financial autonomy for the States as
possible. States should not starve for funds or be always looking at the center for help. Thus, the financial imbalance between Federal and State Governments should be removed.

This imbalance of financial resources between the Central and State Governments can be solved by transferring funds from the Center to State Governments. The practice is very common in almost all federations. The Commonwealth Grant Commission of Australia observes that “We have an accepted practice of transferring large and increasing sums from the Commonwealth to State Governments primarily because the Commonwealth can raise the money more easily.” Thus, by transfer of funds from the Federal to the State Government, the financial balance is achieved. Therefore, inter-governmental financial transfer constitutes an integral part of the system of Federal finance in maintaining financial equilibrium.