Towards Green Federalism: Make Fiscal Allocations Under Forest & Ecology Equitable

It emphasises the urgent need for developing economies like India to prioritise climate adaptation, given the profound implications for human lives, livelihoods, and macroeconomic stability.

India’s Climate Challenge

Within this context, the Finance Commission of India — a constitutional body established under Article 280 — plays a pivotal role in determining the intergovernmental devolution of financial resources to the State.

It recommends two primary forms of transfers: (1) tax devolution, which is unconditional; and (2) grants-in-aid, which are conditional transfers determined by factors such as revenue deficits, allocations to local bodies, disaster relief needs, and state and sector-specific requirements.

Environmental Criteria In Fiscal Transfers

The 15th Finance Commission (FC), which provided recommendations for the period 2020-25, acknowledged the increasing salience of environmental governance by incorporating a Forest and Ecology (F&E) criterion into the tax devolution formula.

This move was grounded in the recognition that states bearing the cost of conserving forest ecosystems contribute ecological benefits that extend beyond their borders. However, conservation often involves opportunity costs, including foregone industrial or agricultural development.

To address this, the FC increased the weight assigned to the F&E criterion from 7.5 per cent (under the 14th FC) to 10 per cent (under the 15th FC), marking a notable shift in acknowledging forests as global public goods. Consequently, Rs 4.22 lakh crore was allocated under F&E in the 15th FC, up from Rs 2.96 lakh crore in the 14th FC. An additional Rs 5.86 lakh crore was allocated to addressing air pollution and disaster management.

Despite these progressive steps, the magnitude of fiscal allocations remains inadequate relative to the escalating risks posed by climate change, unregulated urban growth, and unsustainable resource extraction.

The 15th FC itself acknowledged these challenges, citing India’s widening vertical fiscal gap, where states are increasingly dependent on Union transfers due to limited own-source revenue capacity. In addition, horizontal imbalances persist due to stark disparities in states' fiscal capacities and development needs.

Accounting For Climate Vulnerability In Fiscal Policy

These vertical and horizontal imbalances are further aggravated by the growing vulnerability of Indian states to climate-induced disruptions. A 2021 assessment by the Department of Science and Technology identified a cluster of highly vulnerable states in eastern India, including Jharkhand, Mizoram, Odisha, Chhattisgarh, Assam, Bihar, Arunachal Pradesh, and West Bengal.

A parallel study by the Council on Energy, Environment and Water (CEEW) reported that 27 of 35 Indian states and Union Territories are highly exposed to hydro-meteorological risks, particularly floods, cyclones, and droughts.

A closer examination of the forest and ecology-based devolution under the 15th FC reveals a misalignment with climate vulnerability data. For example, both Arunachal Pradesh and West Bengal have similar vulnerability scores (0.59), yet Arunachal Pradesh received a 13.302 per cent share under F&E, while West Bengal received only 1.849 per cent.

States with nearly identical vulnerability scores — Assam (0.62), Chhattisgarh (0.62), and Bihar (0.61) — received divergent allocations of 3.367 per cent, 10.112 per cent, and 0.930 per cent, respectively. Mizoram (0.65 per cent) and Jharkhand (0.67 per cent) also received comparatively low shares.

These discrepancies indicate that allocations under the forest and ecology criteria are more reflective of ecological endowments like forest cover, rather than the broader spectrum of climate vulnerability.

Reimagining Ecological Fiscal Transfers

This disconnect raises fundamental questions about the targeting and sufficiency of current fiscal instruments in addressing climate adaptation and resilience. There is a compelling need to reform the architecture of intergovernmental fiscal transfers so that they account for environmental externalities, opportunity costs of conservation, and varying adaptive capacities across states.

The erstwhile Planning Commission attempted to address this gap in 2012 by proposing an Environmental Performance Index for the allocation of central assistance. This index encompassed five domains: Air quality, water quality, forest cover, waste management, and climate change — represented through 16 indicators like surface water quality, solid waste management, forest cover, and renewable energy capacity.

While the index was never operationalised by the FC, it offered a useful template for environmentally-informed fiscal federalism. With climate risks intensifying, the upcoming 16th Finance Commission has an opportunity to formally integrate such environmental performance metrics into the fiscal transfer system.

(This is Part 1 of a two-part series. Part 2 will be published tomorrow)

(Garg is former Special Secretary, MoEF&CC, and President, Mobius Foundation. Rathore is a research associate, Mobius Foundation. Views are personal)