The paper* attempts to analyse the impact of devolution of taxes and distribution grants by the Centre to the states in India:
The study analyses and finds that the impact of tax devolution to the states had a more equalising impact than that of distribution of grants. There is considerable discretionary element in the latter while the former is criteria based. The paper suggests avoiding multiple criteria for tax devolution and change in a criteria for disbursal of general purpose grants from the present gap filling to ones taking into consideration emergent and specific needs of the states. Differing fiscal capacities can be taken care of through tax devolution. The share of states in tax devolution needs to be higher for ensuring that the states are not at a disadvantage due to restructuring of the grants. The negative use of grants for achieving a target of deficit indicators have been questioned on the basis of Constitutional validity (See Bagchi 2008, Isaac and Chakraborthy, 2008) as well as on its impact on the means to achieve these indicators. Instead, incentive grants in a positive manner for achieving better own revenue effort can be considered. They need not emphasise on deficits, which can be achieved by cutting expenditure without augmenting revenue. These incentive grants will be for revenue-led fiscal consolidation instead of a mere deficit reduction. The present design of centrally sponsored schemes needs to be restructured by transferring existing schemes with the funds to the states.
* R Mohan and D Shyjan, Tax Devolution and Grant Distribution to States in India: Analysis and Roadmap for Alternatives, Working paper 14, Centre for Development Studies, December 2009