Q1. Which of the following best defines the concept of fiscal federalism in the Indian context?
Fiscal Federalism and Finance Commission: RAS Prelims MCQs
99 RAS Prelims MCQs on fiscal federalism and the Finance Commission cover the constitutional financial provisions, the sharing of taxes between the Union and States, and the GST framework. The Articles on the Consolidated Fund and Contingency Fund, the duties of the Finance Commission and the criteria it uses are asked as facts and statements.
Practice questions based on the RPSC RAS Prelims syllabus. They follow the exam pattern but are not past-paper questions.
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Q2. Consider Statement I and Statement II regarding fiscal federalism.
Statement I: Fiscal federalism requires a clear demarcation of revenue-raising powers to ensure macroeconomic stability.
Statement II: In India, the residuary powers of taxation are vested in the State Legislatures to promote regional autonomy.
Statement I: Fiscal federalism requires a clear demarcation of revenue-raising powers to ensure macroeconomic stability.
Statement II: In India, the residuary powers of taxation are vested in the State Legislatures to promote regional autonomy.
Explanation
Financial stability requires specific demarcation of revenue powers, which is why the Union handles elastic taxes. However, unlike legislative residuary powers, taxation residuary powers in India are vested with the Union Parliament under the Constitution. This centralizes key fiscal authorities to ensure uniform economic policy throughout the country while supporting regional administrative needs.
Q3. What is the primary cause of horizontal fiscal imbalance in a federal structure?
Explanation
Horizontal fiscal imbalance occurs when different states possess varying abilities to generate revenue due to differences in natural resources, industrial development, and historical factors. States with lower income levels or difficult terrains cannot provide the same standard of public services as wealthier states. The Finance Commission addresses this through a specific formula for tax redistribution.
Q4. Consider the following statements regarding vertical fiscal imbalance in India:
I. It arises because the Central government is assigned taxes with higher elasticity and wider bases.
II. States are assigned expenditure responsibilities that exceed their independent revenue-generating capacities.
III. The Constitution provides for the Finance Commission as the sole mechanism to resolve this imbalance.
Which of the combinations given above is/are correct?
I. It arises because the Central government is assigned taxes with higher elasticity and wider bases.
II. States are assigned expenditure responsibilities that exceed their independent revenue-generating capacities.
III. The Constitution provides for the Finance Commission as the sole mechanism to resolve this imbalance.
Which of the combinations given above is/are correct?
Explanation
Vertical fiscal imbalance exists because the Central government is assigned major taxes with higher revenue potential, such as income and corporation tax. Conversely, States have extensive responsibilities in sectors like health and education. While the Finance Commission is a key mechanism, other tools like discretionary grants and Centrally Sponsored Schemes also play a role.
Q5. Given below are two statements, one labeled as
Assertion (A) and the other as Reason (R):
Assertion (A): The Constitution of India incorporates mechanisms like tax devolution and grants-in-aid to states.
Reason (R): Vertical fiscal imbalance is inherent in the constitutional design of revenue and expenditure assignments.
Assertion (A) and the other as Reason (R):
Assertion (A): The Constitution of India incorporates mechanisms like tax devolution and grants-in-aid to states.
Reason (R): Vertical fiscal imbalance is inherent in the constitutional design of revenue and expenditure assignments.
Explanation
The Indian Constitution acknowledges the inherent vertical gap between the revenue powers and expenditure duties of the Centre and States. To bridge this, the framework includes mandatory tax devolution and statutory grants. These mechanisms ensure that States have sufficient financial autonomy to manage their functions effectively despite having fewer independent revenue sources than the Centre.
Q6. Which constitutional mechanism is primarily responsible for addressing the horizontal fiscal imbalance among States in India?
Explanation
Addressing the fiscal gap between states requires a formulaic approach that considers various socio-economic indicators. The Central Finance Commission uses criteria like income distance, population, and area to distribute the divisible pool of taxes. This ensures that resource-poor states receive more support, thereby promoting balanced regional development and reducing horizontal fiscal disparities across the Indian federation.
Q7. Match the fiscal terms in List I with their descriptions in List II:
Choose the correct answer:
| Concept | Description |
|---|---|
| A. Vertical Fiscal Imbalance | i. Differences in revenue capacities among various states |
| B. Horizontal Fiscal Imbalance | ii. Transfers aimed at ensuring a minimum standard of public services across states |
| C. Equalization Grants | iii. Central taxes shared with states |
| D. Divisible Pool | iv. Gap between resources and expenditure obligations of Centre and States |
Explanation
Fiscal federalism employs various mechanisms to ensure balance. Vertical imbalance reflects the resource gap between the Centre and States, while horizontal imbalance denotes disparities among states. Equalization grants ensure minimum service standards everywhere. The divisible pool consists of central taxes shared with states. Together, these tools form the basis for equitable financial distribution and sustainable national growth.
Q8. Which of the following statements regarding the financial relations between the Centre and the States is incorrect?
Explanation
Under Article 271, the Union can levy surcharges for its own purposes, and these proceeds are not shared with the States. This distinguishes them from other taxes in the divisible pool. Other rules ensure that Union property remains exempt from state taxes and that the Union can provide grants for public purposes beyond the Union List subjects.
Q9. A newly formed State with hilly terrain and low industrial output struggles to provide basic healthcare. Which specific tool in fiscal federalism is best suited to address this specific state’s incapacity without altering the broad tax-sharing formula?
Explanation
States with structural disadvantages, such as hilly terrain or low industrialization, often face a revenue gap that tax devolution cannot fully bridge. Revenue deficit grants provide targeted assistance to help these states meet their essential expenditure needs. Unlike broad tax sharing, these grants specifically address the post-devolution budgetary shortfalls of states needing additional financial support.
Q10. Which is the most appropriate description of the "Income Distance" criterion used by the Finance Commission?
Explanation
The income distance criterion is used to promote horizontal equity among states. It calculates how far a state’s per capita income is from the benchmark set by the richest state. States with a larger distance receive a higher share of devolved taxes. This ensures that economically lagging states have more resources to improve their developmental outcomes.Answer key for these questions
| Q | Correct answer |
|---|---|
| 1 | (b) The division of tax powers and spending duties between different government tiers |
| 2 | (c) Statement I is correct but Statement II is incorrect |
| 3 | (c) The unequal economic capacities, resource endowments, and developmental levels among different States |
| 4 | (a) I and II only |
| 5 | (a) Both A and R are true and R is the correct explanation of A. |
| 6 | (b) Tax devolution formula recommended by the Central Finance Commission |
| 7 | (a) A-iv, B-i, C-ii, D-iii |
| 8 | (a) Surcharges on certain taxes and duties are levied by the Union and form part of the divisible pool. |
| 9 | (c) Revenue deficit grants recommended by the Central Finance Commission |
| 10 | (a) The distance of a State’s per capita income from the State with the highest per capita income |
Key facts from Fiscal Federalism and Finance Commission
- The President appoints the Chairman and members of the Finance Commission; Article 280(3) lists its duties, including the distribution of net proceeds of taxes.
- Article 266 provides for the Consolidated Funds; the Contingency Fund is at the disposal of the President.
- Article 268 covers Union-levied duties that are collected and kept by the States.
- Horizontal fiscal imbalance among States is addressed by the tax devolution formula recommended by the Finance Commission; revenue deficit grants help States that cannot meet basic needs.
- The 15th Finance Commission dropped the criterion of the 1971 population for horizontal devolution.
- The GST Council is an example of cooperative federalism; the GST Compensation Cess was extended to March 2026 to repay back-to-back loans of the Centre.
Frequently asked questions
How many RAS Prelims practice MCQs are there on Fiscal Federalism and Finance Commission?
This page has 99 practice MCQs on Fiscal Federalism and Finance Commission (Indian Economy). Each has the correct answer, and most have an explanation.
Who appoints the Finance Commission?
The President of India, under Article 280, every five years or earlier. The Commission recommends how the net proceeds of taxes are shared between the Union and the States and among the States.
Which Article lists the duties of the Finance Commission?
Article 280(3). It sets out the duties, including recommending the distribution of the net proceeds of taxes between the Union and the States and the principles that govern grants-in-aid to States.
What kind of federalism does the GST Council show?
Cooperative federalism. The Council, with the Union Finance Minister as chairperson and State Finance Ministers as members, takes decisions on GST rates and rules jointly, and the votes of the Centre and States are weighted.