OPINION I Economic Times

India’s federal structure rests on a delicate balance between the Centre’s revenue-raising powers and the States’ expenditure responsibilities. In theory, larger and more populous states should possess stronger fiscal capacity, given their vast consumption base, economic diversity, and administrative reach. In practice, however, many of these states are gradually losing their fiscal strength.

A decade-long analysis by the Comptroller and Auditor General (CAG) of State Finances, covering 2013-14 to 2022-23, paints a sobering picture. The ten most populous states — Uttar Pradesh, Maharashtra, Bihar, West Bengal, Madhya Pradesh, Tamil Nadu, Rajasthan, Karnataka, Gujarat, and Andhra Pradesh — together account for about three-fourths of India’s population. Yet, in 2022-23, their combined share in the total revenue receipts of all states stood at just 68.9 per cent, down from 74.4 per cent a decade earlier. This six-point decline signals a weakening of fiscal capacity where it should have been strongest.

A state’s total revenue rests on four pillars: its own tax revenue, its constitutionally mandated share in Union taxes, its non-tax revenues such as royalties, dividends, and user charges, and grants-in-aid from the Centre. Of these, a state’s own tax and non-tax revenues are true indicators of fiscal autonomy and governance quality. States that mobilize more from their own sources enjoy greater flexibility and accountability in fiscal planning. Yet, data show that this strength is eroding. Across all states, own tax revenue contributes around 48 per cent and non-tax revenue about 8 per cent of total receipts, a pattern largely unchanged over the decade. However, among the ten populous states, own tax revenue declined from 56 per cent in 2013-14 to 51 per cent in 2022-23, while non-tax revenue nearly halved from 8.8 per cent to 5.3 per cent.

The divergence among these states is striking. Maharashtra, with its diversified economy and efficient tax compliance, derives nearly 68 per cent of its revenue from its own taxes — the highest in the group. Karnataka and Gujarat also perform strongly, each collecting over half its revenues from its own sources. In contrast, Uttar Pradesh and West Bengal depend on their own taxes for only about 42 per cent of revenue, while Bihar stands at a meagre 25 per cent, reflecting both its narrow tax base and limited formal economic activity.

Non-tax revenues show even sharper disparities. Among states earning over 10 per cent of their total revenue from non-tax sources, only Rajasthan belongs to this populous group. Smaller states such as Odisha and Chhattisgarh outperform larger ones due to mineral royalties. Odisha alone earned nearly ₹43,000 crore from mining royalties in 2022-23. Andhra Pradesh, once a strong performer, saw its non-tax income collapse after the 2014 bifurcation that created Telangana, depriving it of key PSUs and mineral assets.

Several structural and policy factors explain this erosion of fiscal strength. A key issue lies in the limited diversification of state tax bases. Many rely heavily on traditional sources such as liquor excise, stamp duty, and fuel taxes, which have low elasticity in an increasingly digital and service-driven economy. The post-GST framework, while harmonizing indirect taxation nationally, has also reduced states’ discretion to adjust tax policy to local needs.

Urban taxation remains another chronic weakness. Property taxes and municipal levies are under-exploited despite rapid urbanization. Local bodies lack autonomy, updated property registers, and enforcement capacity, while political reluctance to raise rates has left cities fiscally weak. Fragile urban finances not only hamper infrastructure but also push state governments to absorb additional burdens.

Non-tax revenues have been neglected as well. Poor governance of state public enterprises, underpricing of natural resources, and failure to monetize land or forest assets have constrained this potential stream. Many state PSUs that could have been dividend-paying entities have turned into fiscal liabilities. Compounding this is policy populism. Competitive giveaways such as farm loan waivers, free electricity, and transport subsidies have proliferated without parallel efforts to expand the revenue base. Such measures, though politically rewarding, erode fiscal sustainability and crowd out developmental spending.

This growing dependence on central transfers has important implications for India’s fiscal federalism. The share of Union taxes in states’ total revenues has risen from 24.2 per cent to 27.8 per cent over the decade. As populous states depend more on the Centre, their fiscal autonomy erodes, constraining their ability to plan development or pursue counter-cyclical policies. India’s most demographically significant states are becoming fiscally dependent ones. This also distorts horizontal balance among states, as underperforming large states weaken the redistributive efficiency of Finance Commission transfers and compel resource-rich smaller states to shoulder a larger fiscal burden.

To restore balance, states must focus on revenue reinvigoration through better administration and policy innovation rather than austerity or increased central support. Strengthening tax administration through digital analytics, data integration, and technology-driven compliance can deliver large gains. Maharashtra’s experience with data-based excise and GST monitoring shows how improved systems can boost collections. Expanding non-tax revenues is equally vital. Beyond royalties, states can monetize tourism, water use, and environmental services through rational pricing and transparent systems. Strengthening public enterprises through professional management and selective disinvestment can transform them into revenue-generating assets.

Empowering local governments is another crucial step. Urban and rural bodies must be granted greater fiscal authority and capacity to raise and retain local taxes. Strengthened local finances will not only improve public service delivery but also relieve pressure on state budgets. Incentive-based transfers from the Centre that reward fiscal prudence — for example, improved revenue-to-GSDP ratios or administrative efficiency — can further encourage states toward self-reliance rather than dependence.

The CAG’s decade-long audit offers a clear warning that population size does not guarantee fiscal strength. India’s bigger states are losing ground not because of a lack of potential, but due to policy inertia and administrative complacency. Rebuilding their revenue base is not merely about balancing budgets; it is vital to the health of India’s cooperative federalism. A federation cannot thrive on fiscal imbalance. For India’s populous states, rediscovering the art of raising their own revenues is the surest path to reclaiming both economic sovereignty and developmental dynamism.