Public finance

1. The Evolution and Provisions of Federal System in India
In a federal system of finance, all items of revenue and expenditure are divided among the
central, state and the local governments. All the three forms of government are free to make
expenditure on their respective heads and to get revenue from their respective sources. In the
words of Dr. R.N. Bhargava, “Federal Finance means the finance of the central government
as well as the state governments and the relationship between the two.”
Some of the important characteristics of a federal finance are:
i. In the federal finance, the sources of income and heads of expenditure are distributed
between the central and state governments according to the Constitution. Their jurisdiction
and rights are clearly defined in the Constitution.
ii. In the federal finance, the sources of income and heads of expenditure of the central and
state governments are different. The states are also financially aided by the centre.
iii. Although the state governments have administered autonomy, yet they remain subordinate
to the centre. No state is free to fall apart from central government on its own.
iv. In case of any financial dispute arising between the central and the state governments, the
solution thereof is sought according to the constitutional provisions. India with a federal form
of Government has a federal finance system.
The essence of the federal form of government is that the Central and State Governments
should be independent of each other in their respective, constitutionally demarcated, spheres
of action. The constitution should spell distinctly and separately the functions to be
performed by respective governments.
Once the functions of the Governments have been spelt out, it becomes equally important that
each of the Governments should be provided with competent sources of raising adequate

2. revenue to discharge the functions entrusted to it. Thus, for the successful operation of the
federal form of government, two important conditions are essential, viz.
i. Each government should have independent sources of revenue; and
ii. Each government should have total commands over its resources to meet its needs.
In short, financial independence and adequacy constitute the backbone of the federal finance
system.
Evolutions and Provisions:
The evolution of the federal finance system in India can be traced to the Government of India
Act, 1935. This Act was based on the general principals of financial independence for the
provinces.
The constitution of independent India accepted this basic principal of federal finance to
achieve the following:
(1) Financially strong Centre:
This is sought to be achieved through the following measures:
i. Powers of concurrent taxation have been avoided.
ii. The centre has been assigned the more elastic and higher- yielding sources of revenue.
iii. The centre has been given the subjects of money and banking, currency and coinage and
the power to resort to deficit financing.
v. The centre has been provided with certain exclusive sources ‘ of revenue.
v. The residuary powers are with the centre.

3. (2) Efficient allocation of functions and financial powers:
The constitution has divided the various functions into three lists, viz.
a) the Union list,
(b) The states list, and
(c) The Concurrent list. Financial powers have, likewise, been divided between the centre and
the states.
(3) Provision for resource transfer:
To this end, the constitution provides three means, viz.
(a) tax-sharing,
(b) grants, and
(c) loans.
4) Flexibility in resource transfers:
Resource transfers from the centre to the states are recommended every five years by the
Finance commission.