The financial “Catch-22” of Indian cities

It is imperative that the fiscal capacities of cities be enhanced

Sukanya Bhaumik | October 30, 2017


#revenue   #infrastructure   #finance   #local government   #Urban local bodies   #drinking water   #fiscal federalism  
Illustration: Ashish Asthana
Illustration: Ashish Asthana

 The United Nations General Assembly has designated October 31 as World Cities Day, which has the general theme - Better City, Better Life.

It is a well known fact that by 2030 nearly 70 percent of the world’s population will be living in cities. In India where presently nearly 32 percent of the population is living in urban areas, over the next two decades nearly 300 million more individuals (50 percent of the population in 2030) will be living in cities. Given the present overcrowding, crumbling infrastructure and decaying quality of life having such additional pressure on Indian cities is simply an unthinkable proposition.
 
The issues encircling Indian cities are multifaceted and rather complicated. Of the many challenges that city governments (Urban Local Bodies-ULBs) face today, the poor state of local government finances is the most pressing.
 
Indian ULBs are amongst the weakest in the world in terms of access to resources, revenue-raising ability and financial autonomy. The ratio of municipal revenues to gross domestic product (GDP) at factor cost in India is estimated at 1.03 percent for 2012-13, compared to 6.0 percent for South Africa 7.4 percent for Brazil. Not only is the country’s municipal sector small compared to international benchmarks, but ULBs in India have been subject to significant erosion in their fiscal autonomy over time.
 
In principle, 74th Constitutional Amendment Act (Article 243W) has accorded constitutional status recognition to the municipal bodies. However in reality, it has only added functional responsibilities without bestowing additional fiscal powers to the ULBs. The precarious state of municipal finance in India is worrying because as cities drive growth and productive employment, they also generate public finances for socio-economic development. In 2007, urban areas with 30 percent of the population, contributed to 62 to 63 percent of the country’s GDP. This contribution will rise to about 75 percent by 2021. Over the next two decades, cities will create 70 percent of all new jobs in India. They will account for 80-85 percent of India’s tax revenue. However, cities will not be able to perform their fundamental role as engines of economic growth and structural transformation unless they are firmly in position to meet the ‘backlog’, ‘current’ and ‘growth’ needs of urbanisation.
 
Citizens’ demand for better infrastructure and better public services in India’s urbanised areas are large and growing. However our cities are struggling to provide such services and the gap between demand and supply is ever widening. It is estimated that only 70 percent of urban households have access to potable treated water facilities (Ministry of Drinking Water & Sanitation, 2013). The average supply of water is 105 lpcd which is much lesser than the prescribed 135 lpcd. Less than 30 percent of India’s waste water is treated and of the 7,935 cities and towns across India, 4,861 lack even a partial sewage network.
 
One reason for such poor quality of infrastructure is that ULBs are under spending on all basic services, i.e. even after supplementation with fiscal transfers—both revenue-sharing transfers and grants—the level of spending is 130 percent lower than the prescribed  norms.
A high powered expert committee in its report of 2011 estimates that the per capita investment requirements for eight major sectors of urban infrastructure over the period 2008-20 is Rs 43,386 and that for O&M is Rs 1806 per capita annually at 2009-10 prices. The total investment is estimated to be Rs 31 lakh crore. It has been estimated that an additional capital investment of Rs 1.2 trillion is required by 2030 to fill the existing infrastructure gap as well as to cater to newly urbanised areas. The reasons for the fiscal issues of Indian cities can be best categorised as:
 
a) Improper revenue mix:
India is one country where the power of municipalities to levy taxes has dwindled over time, eroding their autonomy. Property tax is the only major municipal tax. Octroi, once a buoyant resource with municipalities has been phased out in all states except Maharashtra. No state however has been assigned a revenue source as buoyant as octroi. The entry tax in lieu of octroi has been introduced in several states like Gujarat, which in principle makes it easier to administer as compared with octroi. However in theory both entry tax and octroi are both against the very fundamentals of the Goods and Services Tax (GST) that propagates the free flow of goods between places. It is expected that, octroi and entry tax will get subsumed into the GST. However the percentage share that local bodies will receive of the GST has still not been finalised. User charges are yet to dominate the municipal scene. Borrowing is not exploited as an important source of municipal finance in India.         
                                                                                 
b) Vertical imbalance:
 Vertical imbalance and fiscal dependency are built into India’s fiscal federalism. This is due to the non-assignment of revenue sources to local bodies to suffice the financing needs of their mandatory functions. ULBs suffer from inadequate ‘own revenues’ making them dependent on state governments for day to day civic administration. ‘Ad-hoc’ intergovernmental transfers constitute the largest source of revenue for many of them. 
 
c) Horizontal imbalance
Public service responsibilities and resources available to finance them vary considerably between ULBs. Horizontal imbalances occur between cities of different sizes with varying composition of economic activity and even within cities with the same population group. 
d). State government control
State governments control municipal bodies to levy taxes and charges and borrow. They post managers to ULBs, set municipal tax rates, grant exemptions, and determine conditions of access to market funds. Grants-in aid are often discretionary. In some states ULBs even need permission from approval from state authorities to enter into public-private partnerships. Further, the presence of parastatals like urban development authorities and water boards undermine the role of ULBs in city planning and service delivery.
 
e) Systemic inadequacies
ULBs face acute systemic problems: lack of professional cadres, absence of robust human resource management, financial management and public accountability frameworks; mismatch between staff needed and available; high administration costs; large scale corruption and inadequate involvement of the community in service delivery. These factors lead to a vicious cycle: inability of ULBs to provide the services wanted by citizens, poor citizen’s satisfaction, unwillingness of citizens to pay taxes and charges, poor revenue collection, lack of finance to deliver services and so on.
 
In the past decade or so, governments have begun to acknowledge the mammoth task of fixing India’s cities and have taken several steps in the direction. The most important being the introduction of massive urban renewal schemes (Jawaharlal Nehru National Urban Renewal Mission (JNNURM) and Atal Mission for Rejuvenation and Urban Transformation (AMRUT. These schemes are directed towards improving the physical infrastructure and also lay great emphasis on strengthening the administrative setup (double entry system, improving property tax collection etc). Presently an approximate of Rs 2 lakh crore is expected to be pumped into cities by the government’s flagship programmes AMRUT and 100 SMART Cities.  However for any of these programmes to yield the expected results, it is imperative that the fiscal capacities of the cities be enhanced.  This can be done through slowly increasing fiscal autonomy to levy taxes, building internal capacities and permitting city governments to map finance to function. 
 
These changes may seem long haul at the moment, but are absolutely necessary to ensure the financial sustainability of India’s cities in the future. 
 
(Bhaumik is a program officer with Public Affairs Centre and has a keen interest in public policy research.)
 

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