Federalism in India: Political Economy and Reform*

The objective of this paper is to examine the nature of India’s federal system, the reforms that have occurred over the last ten years, and what remains to be done. We begin by briefly describing the key federal institutions in India, focusing particularly on the mechanisms for center-state transfers. These transfers are quite large, and are the major explicit method for dealing with inequalities across constituent units of the federation. We then examine the evidence on how India’s political economy has affected the practical workings of the transfer mechanisms. We next describe recent and potential reforms of the center-state transfer system, in the context of evidence of widening interstate economic disparities. This is followed by a consideration of broader actual and possible reforms in India’s federal institutions, including tax assignments and local government reform. We conclude by relating our discussion to other dimensions of economic reform in India. * This paper has been prepared for presentation at the conference on “India: Ten Years of Economic Reform”, at the William Davidson Institute, University of Michigan, September 2001. It forms part of a larger, ongoing study of Indian federalism by the two authors. The second author has benefited from the hospitality and support of the Research School of Pacific and Asian Studies at the Australian National University; the National Institute of Public Finance and Policy, New Delhi; and the Center for Research on Economic Development and Policy Reform at Stanford University, where his stays as Visiting Fellow have provided congenial environments for some of the research reported here. We are also grateful for financial support from ANU and the UCSC Academic Senate. Remaining shortcomings are our responsibility. ✝ Director, Institute for Social and Economic Change, Bangalore, India; email: [email protected]. ‡ Professor of Economics, University of California, Santa Cruz, CA 95064, USA; email: [email protected], Ph: (831) 459-4093, Fax: (831) 459-5900