Chandrababu Naidu and Nitish Kumar are both indispensable to the NDA Government. They have now revived their old demands of special category status for their states with renewed vigour, which they had so passionately demanded in the past. Andhra Pradesh was promised this status on the floor of Parliament by no less than the then Prime Minister Manmohan Singh when Telangana was carved out of it to include two of its most prosperous districts ~ Hyderabad and Ranga Reddy. These districts earned the bulk of revenues for the undivided state. Nitish Kumar has raised this demand time and again and has even prepared a special paper on this, highlighting why Bihar absolutely needed this status to address its backwardness.

Eleven economically backward hill states of India, including eight North-eastern states and the three Himalayan states including J&K, now an UT, Uttarakhand and Himachal Pradesh, comprised the group of “Special Category States”. These states, created at different points of time in the history of independent India, suffered from many drawbacks arising from their remoteness and geographical isolation, lack of resources, capital and infrastructure, economic backwardness being their only inheritance from the past. The Centre sought to address this asymmetry, partly through Constitutional provisions under Schedules V and VI, and partly through the mechanism of awarding them ‘special category status’ which was designed to solve the problems of their economic backwardness by giving them liberal access to Central funds.

This was rather an unimaginative solution that relied solely upon the use of funds, ignoring the inherent structural weaknesses and capacity constraints of these states. Like many of our national policies regarding backward areas, this too was an ad-hoc solution, applied without insight into the nature of their problems. States were accorded this status by the National Development Council based on Planning Commission recommendations on fulfilling an arbitrarily defined set of criteria that included: (1) hilly and difficult terrain, (2) low population density and/or sizeable share of tribal population, (3) strategic location along borders with neighbouring countries, (4) economic and infrastructural backwardness, and (5) non-viable nature of state finances.

Once the status is awarded, the specific assistance pattern follows to the state in perpetuity. There is no stipulation as to what was intended to be achieved by such a status, or the time period within which this is to be achieved. The status once bestowed upon a state carries only rewards but no obligation on the part of the state. The status is also neutral to the scale of backwardness and limited only to the funding pattern, without any consideration of the state’s capacity to utilise these funds. The mechanism concerns only the transfer of funds without any accountability ~ certainly not an ideal mechanism for upliftment and empowerment. It is not that the mechanism failed to deliver altogether. While some of the special category states gradually developed the necessary capacity over time and could use the Central resources to their advantage, others could not do so for various reasons, including protracted militant insurgency and political instability combined with misgovernance.

The unabated flow of funds, unlinked to any performance expectations, produced an overwhelming dependence on the Centre and led to complacence, an attitude that culminated in just seeking more and more funds from the Centre as a magic solution to any problem faced by these states. During the Planning era, the Central plan assistance was provided to the states under the Gadgil formula. Under this, 30 per cent of the total plan assistance was earmarked for the special category states which were then divided among them. This kitty of 30 per cent remained constant even though the number of such states went up from three in 1969 to 11 in 2001.

Thirty per cent of the Centre’s gross budgetary support for plan expenditure went to the special category states on the basis of 90 per cent grants and 10 per cent loans. The 12th Finance Commission recommendations made the Centre give only grants, and left it to the states to raise loans from the market as and when they needed. The 90 per cent grants plus 10 per cent loans formula for special-category states is now restricted only to centrally-sponsored schemes (CSS) As further incentives to attract industries, excise duty concessions are provided to companies for setting up new industrial units within these states, besides income tax holidays for 10 years for setting up new industries, extendable further for five years upon expansion.

They also get certain subsidies on capital investment, transport, interest, insurance, etc. However, in the absence of market, infrastructure and local resources, these incentives have hardly led to industrialisation of these states. But because of these benefits, there have been persistent demands from Bihar, Rajasthan, Odisha and Andhra Pradesh and even Goa for this status. Such claims had found favour in the era of coalition politics and wafer-thin majorities in Parliament. Initially around 70-80 per cent of the plan transfers were covered under the Gadgil formula. But with the gradual unchecked proliferation of CSS and appropriation of most plan resources by them through direct off-budget transfers, the Gadgil transfers progressively went on shrinking till they shrank to the point of insignificance, to only 9 per cent of the total plan transfers.

It was a double whammy for the special category states, for while their number had proliferated from three in 1969 to 11 in 2001, their share of 30 per cent of the total plan assistance had not increased. It worsened their resource position substantially. Direct transfers were abolished in 2013–14. In 2013, CSS were also restructured into six “core of the core” schemes and 22 “core” schemes, which have since been proliferating. In the budget for 2015-16, the NCA was abolished, and with effect from 2017-18, the distinction between plan and non-plan expenditure itself was removed, making the Gadgil formula a thing of the past. Questions have since been raised about its fallout on some of the earlier federal fiscal arrangements inherited from the planning days like plan transfers to states including the special category ones.

The Fourteenth Finance Commission report submitted in December 2014 did not make any specific recommendations for them. The report gives an impression that the special category status has de facto been abolished. “After the 14th Finance Commission recommendations, the era of special category status to states has ended,” then Finance Minister Arun Jaitley had said in 2015 in response to persistent demands of Nitish Kumar for Bihar’s special category status, “I don’t want to go into history. The 14th Finance Commission is a constitutional body. The state would get what has been recommended for it. And, we are also giving additional money to Bihar,” giving an impression that henceforth, no special benefits were available under the Special Category Status.

However, it must be remembered that finance commission grants till then were only non-plan grants, while the special category states benefited mostly from plan grants. The quantum of finance commission grants did not make much difference to their resources, while the devolution of taxes from the divisible pool was formula-based, in which factors like population, area, fiscal discipline or tax effort mostly went against them. These states benefited primarily from the plan grants, though they received some non-plan grants for bridging their revenue deficits, which still continues. But the non-plan grants have been rather insignificant compared to the plan grants. To evaluate whether the special category status is still active we have to consider two things ~ whether there has been a curtailment of resources of these states and whether they have managed to retain their relative advantages vis-à-vis other states.

As I have shown elsewhere, the reality is that the benefits enjoyed by these states remain well protected. Even if this status is awarded to Andhra and Bihar now, it is unlikely to solve their problems. More than finances, the problem of the states is their capacity to utilise the funds. Even now, almost a quarter of their budgetary allocations remain unutilised and had to be surrendered. Lack of institutional capacity continues to plague them, like many other Indian states, and unless this aspect is addressed, additional funds would only lead to additional waste.

Further the flaws of the existing scheme need to be corrected, like the absence of any accountability and monitoring mechanism or any performance expectation from the states in a time bound manner. Further, given the emphasis that is increasingly being placed upon good governance, accountability and transparency, equity and efficiency, the purpose of development is likely to be served better if the status is reviewed periodically and a target-based, time-bound approach is adopted for assistance. Suitable incentives for better performance and disincentives for sub-optimal performance should also be built into the system for it to work efficiently.

A targetoriented formula-based approach for assistance instils accountability, improves performance, removes complacency and helps a state move rapidly forward. It also makes the field more level for all players, with open entry and exit to the special status for all states in need of assistance

(The writer is a commentator, academic and author of the book Special Category States of India, Oxford University Press, 2016)