City resources extracted from taxes, charges and fees have vast potential for municipal finance
Urban development in India, due to its multiplier effect and value addition, coincides with the expansion of the non-farm sector. Most productivity gains (86% of GDP through structural readjustment) are noticed within and around cities. Accordingly, the city economy and resources to be extracted from taxes, charges and fees have vast potential for municipal finance. Yet the revenue-generating potential of municipal bodies is declining. Municipal-own sources as part of national GDP have declined from 0.6% in 2007 to 0.53% in 2012. During this period, despite a quantum jump in fiscal transfers (36% to 46% of municipal income) from the Centre (Rs 1,000 crore for 1990-95 to Rs 87,000 crore for 2015-16) and states (substantially from one state to another), municipal bodies have failed to sustain the size of municipal finance (declined from 1.08% to 1.03% of GDP).
Municipal revenue as part of combined intergovernmental revenue also declined from 3.71% in 1990-91 to 2.43% in 2000-01 and 1.7% in 2007-08; this is 10.2% for developing nations and 12.7% is the global average. At city level, municipal governments access around 1% of GDP, whereas the scope could be 5-6% of city economy.
The fiscal stress at municipal level adversely affects liquidity, solvency and creditworthiness of city governments to maintain services at current levels of efficiency and upgrade them as per mandate. A March 2018 survey by Janaagraha confirms that many sample cities fail to mobilise revenue to pay salaries to employees. Evidence suggests fiscal stress across the size class of cities (North and East municipal corporations in Delhi and local bodies in smaller towns). In most cases, fiscal transfers to municipalities are either dedicated or used (as untied grants) towards payment of salaries.
Municipal finance from city economy and resources by way of suitable instruments assume special significance in the light of urban sector assessment being done by XV-FC and the government to frame a national urban policy.
The reasons for municipal failure to tap city potential are (1) inadequate coverage of city region, (2) lack of powers to levy taxes, (3) weakness in financial management—i.e. accounting and budgeting, and (4) traditional management of municipal expenditure.
First, a large part of city remains outside the purview of resource base of city government. Illegal land subdivision and land use conversion minimise the revenue from property taxes (PT) and license fees. Economic Survey 2017 expressed concern on the gaps in urban centres (8,000-plus) and city governments (4,000-plus) as well as potential areas not classified as urban according to current definition of Census. Also, city region is not part of a single municipal system. Administrative city (such as NDMC and MCD), physical city (Gurugram and Noida) and city region (other adjoining towns) are different entities. There are huge variations in the income of administrative cities within a single city region. South Delhi Municipal Corporation, for example, is much better placed than East Delhi.
Second, the power to levy taxes as assigned by states as per Article 243X is limited to a few taxes with PT as a mainstay, which is underutilised to the tune of 5-20% of the potential. PT is 0.23% of GDP in India; global average is 1.04%. Also, user charges are limited to water supply; other instruments such as congestion pricing are not applied. Cities are not allowed to use instruments of value capture finance to raise funds. Land value gains captured by development authorities and housing boards within and around administrative city (such as DDA) are not shared with city governments.
Third, financial management is weak. Despite persuasion by the Centre along with municipal accounting code, double entry accounting is not fully applied by most urban local bodies. Most cities apply line item incremental budgeting, which ignores the actual requirement and availability of funds. Innovative auditing is not taken up, leading to revenue loss and expenditure mismatch. Cities report significant difference between budgeted amount and actuals, adversely affecting regular replacement and repair in their O&M activities.
Fourth, municipal expenditure suffers from conventional system of deployment and technical know how. Time and cost overrun is common. Funds allocated by the Centre under different missions are underutilised, caused by lack of planning, manpower and implementation capacity. Cost-effective, environment-friendly, inclusive and sustainable delivery of services is not planned.
Responses to fiscal stress are emerging at the city level. Ahmedabad, Pune, Bengaluru, Hyderabad, Indore, Gurugram and NDMC have a track record of financial management, accounting, budgeting and efficiency in expenditure. They report revenue account surplus, which enables them to undergo rating for creditworthiness/ borrowing and repayment capacity, and also take up capital projects on non-market goods such as environment, poverty alleviation, tourism, etc. Pune and Hyderabad raised Rs 200 crore each from municipal bonds, which were oversubscribed by six times and two times, respectively. This welcome trend will open up replication among smart cities and other cities taking up reforms in financial management.
Hyderabad Municipal Corporation carried out reforms in the database for PT and collection of impact fee to recover value addition due to municipal investment. Ahmedabad Municipal Corporation has two SPVs—Sabarmati Riverfront Development Corporation and Janmarg BRTS. AMC has also implemented several PPP projects (such as the Kankaria Lakefront Development), enabling additional liquidity to take up non-conventional projects on health, tourism, poverty alleviation and business promotion, which are normally missing in a municipal budget.
The emerging models on correction provide a fiscal agenda to stimulate own source funds to city governments. These include: (1) As the state list of taxes, a separate list of local taxes needs to be added to Article 243X, which should cover value capture finance; (2) discretionary nature of Article 243W with regard to delegation of functions should be removed particularly in relation to remunerative and revenue generating activities; (3) Schedule XII should identify functions in the context of sectoral changes occurring since 1992; (4) state finance commissions should be synchronised with national FC to consolidate local demand for upward assessment; (5) fiscal devolution should be partly linked with municipal performance on mobilisation of own sources, and it should include pricing and cost recovery through non-conventional sources such as polluter-pay and reduce, reuse and recycle; (6) land value gains captured by development authorities or housing boards should be shared with ULBs in line with the recommendations of XIII-FC and Second Administrative Reforms Commission; (8) database on land, properties and advertisement potential should be regularly updated to widen base of value capture finance; (9) accounting system needs to be modified with double entry accounting; (10) normative budgeting should be introduced to gradually reduce the backlog and mobilise local elasticity for municipal budget; and (11) resources from private sector and community should be duly used to supplement municipal staff and assets.
By KK Pandey
Professor, Urban Management, Indian Institute of Public Administration, Delhi