Service standards in the provision of health and education in the states in India are low on average and also characterized by large inter-state disparities. These disparities are due to differences in fiscal capacity, differences in revenue effort and differences in priority accorded to the concerned sectors. The transfers from the central to state governments in many federations are guided by the equalization principle. Two important examples are Canada and Australia. When unconditional transfers are made, equalization transfers aim to neutralize deficiency in fiscal capacity but not that in revenue effort. Sometimes adjustments affecting cost and need factors may also be accommodated. Both in Canada and Australia, apart from general purpose and unconditional transfers, there are also specific purpose transfers. Considering the fact that it is important not only to improve the average levels of provisions of health and education services, but also to reduce disparities across states, the Twelfth Finance Commission has recommended special grants for health and education to selected states. In determining these grants, the TFC had kept the equalization principle in perspective and has not underwritten deficiency in expenditure if it arises because states accord less than average priority to the concerned sector. Recommended grants however only partially meet the requirement of resources for these sectors. For meeting the needs fully, much larger amounts would be involved. TFCs initiative should be taken only as a beginning that requires supplementation by plan grants. After gaining experience in implementing these grants, larger grants and a more comprehensive approach can be developed.
Equalizing Health and Education: Approach of the Twelfth Finance Commission
WORKING PAPER 7/2006