Political Economy of Discretionary Transfers: A Dynamic Panel Data analysis of Indian States

Abstract

Intergovernmental transfers are a major instrument to ensure smooth functioning of ‘Fiscal federalism’ in India. But the mechanism of Central transfers in India seems to be confusing and overlapping. Although a formula-based practice has been mandated by the Indian Constitution, there are several breaks in the practice. While predetermined formulas are used for some transfers, there is considerable discretion in allocating other classes of transfers. This paper makes an attempt to focus on the determinants that influence the quantum of discretionary transfer to sub-national governments from a political economy perspective. Taking a panel data set of 28 states for the period 2001 to 2011, and by using Arrellana-Bover (1995)/ Blundell-Bond (1998) system estimation model, the paper observes that the chosen variables do explain disparity in Central fund disbursement under non formulaic discretionary head in a robust way. The study has analysed the results separately for SCS and NSCS and in combine. The findings of the study reveal that the chosen variables have different outcomes for SCS and NSCS. However, when SCS and NSCS states are combined, the variables like fiscal capacity, fiscal performance and coalition status are found to be significant.