Urban Municipal Finance in India

Urban India contributes significantly to the national GDP, yet its municipalities manage less than 1% of the country's tax revenue. The fiscal architecture has failed Indian cities, making them reliant on intergovernmental transfers, loans, and schemes. Despite the expectation to provide essential services, municipalities lack both fiscal autonomy and predictable revenue streams, primarily due to the centralization of taxation powers.

Impact of GST on Municipal Revenues

• The introduction of the Goods and Services Tax (GST) resulted in the loss of nearly 19% of revenue sources for cities.
• Traditional revenue sources like octroi, entry tax, and local surcharges were absorbed into the GST framework.
• Promised compensatory mechanisms often bypass municipalities, deepening their reliance on State and Central grants.

Challenges with Municipal Bonds and Credibility

• The credibility of Indian municipal bonds is low due to the flawed framework of assessing creditworthiness.
• A city's creditworthiness is often judged by its "own revenue" performance, ignoring regular grants and transfers.
• Credit rating agencies and institutions like RBI view grants as "non-recurring income," undermining cities' financial stability.

Issues with Current Revenue Models

• Property tax collection and user fees are limited solutions, contributing to only 20-25% of a city's revenue potential.
• This model disproportionately burdens residents, especially in lower-income areas.
• The "user pays" logic turns public goods into private commodities, which is unjust.

Lessons from Scandinavian Models

• Scandinavian countries base their welfare state on a robust local tax base, allowing municipalities to levy and collect income taxes.
• This model ensures transparency, accountability, and allows cities to plan for long-term needs.
• Transfers from higher government levels are seen as part of a shared fiscal ecosystem.

Reimagining Fiscal Federalism in India

• There is a need for a model where municipalities have predictable, adequate, and untied revenues.
• Municipal bonds should recognize grants and shared taxes as legitimate components of city income.
• The rating system should consider governance capacity, including transparency and citizen participation.
• Cities should be empowered to use part of their GST compensation or State share as collateral for borrowing.

Conclusion

Reforms are necessary to restore cooperative federalism. Municipal finance should be seen as a moral and political question, recognizing that cities are not cost centers but foundational to national prosperity.