RASTA: Local Research, Local Solutions: Public Finance Management,volume Xvi

ABSTRACT

Fiscal federalism is the transfer of expenditure responsibility to lower tiers of government with reliance on the central government for resource transfers. Fiscal decentralisation, on the other hand, gives more autonomy to subnational governments for the basic needs of the people as key public sector decision-makers. This is encouraged to target efficiency gains by reducing wasteful expenditures. The current study examined the ‘Leviathan hypothesis’ of government expenditures under fiscal autonomy and federal resource transfers to provincial governments in Pakistan. The time series analysis with structural breaks was applied to examine the Leviathan hypothesis. The findings support that the Leviathan tendency can be tamed by allocating more resources for development expenditures from fiscal decentralisation in comparison to fiscal federalism. Nevertheless, there is a long way to achieve self-sufficiency under provincial autonomy in taming the Leviathan as currently, the impact of the provincial revenue resources on the overall budget balance is positive but not very significant. For examining the distributional consequences on social sector budgetary allocations and social sector outcomes, the standard pooled OLS regression estimation technique was used after taking into account the time dummies and cross-sectional dummies for the provinces. The impact of expenditures was checked on education sector expenditure (both current and development). The study found that public resource utilisation using provincial tax revenue had positive distributional consequences through the avoidance of wasteful current education expenditures. Furthermore, slope coefficients of provincial tax collection with health infrastructure, both the number of dispensaries and hospitals, were statistically significant and positive and had a large magnitude. This illustrates that the Leviathan is tamed for public sector resource efficiency.

INTRODUCTION

With the advent of liberalised policies worldwide during the 1990s, many countries have shown strong advocacy toward fiscal aspects of decentralisation. Fiscal decentralisation can be evaluated by examining the revenue and expenditure shares of the subnational governments (SNG) vis-a-vis the central government. The major motivation behind fiscal decentralisation is to achieve government resource efficiency and improvement in public sector service delivery. However, some mixed results are found in the case of developing countries as against the conventional supporting argument for fiscal decentralisation. In the case of Pakistan, there is asymmetric decentralisation of the fiscal and political institutions (Tunio & Nabi, 2021), i.e., the political structure is completely decentralised but the fiscal system is centralised. In Pakistan, a higher degree of fiscal centralisation is observed due to a greater share of the federal government in tax autonomy and spending as well as heavy reliance of the federating units on federal transfers. The consolidated fiscal operations for 2021 are provided in Figure 1. The greater federal share in tax revenue, non-tax revenue and current expenditure depicts the federal nature of Pakistan’s fiscal operations.

Figure 2 shows federal resource transfers to provincial governments (2017 to 2020). There was a slight increase in federal tax transfers in 2018 with a declining trend in 2019 and 2020. On the other hand, federal grants remained stagnant from 2017 to 2019 with a slight increase in 2020. The provincial tax collection as a percentage of GDP is minimal with an average value of 1.1 per cent. Therefore, provincial governments rely heavily on federal resource transfers, especially tax transfers.

Fiscal federalism is the transfer of expenditure responsibility to lower tiers of government with reliance on the central government for resource transfers. It determines the distributional responsibility of resources to lower tiers of the government. On the other hand, fiscal decentralisation gives more autonomy to subnational governments as key public sector decision-makers to cater to the basic needs of the people. It is a mechanism of devolving fiscal responsibilities to internalise the finances and suitable taxation authority to subnational governments for efficiency gains. Thus, both concepts are distinct in terms of their impact on resource efficiency and effectiveness in public sector service delivery.

The current study examines the ‘Leviathan hypothesis’ of government expenditures under fiscal autonomy and federal resource transfers to provincial governments in Pakistan. The provincial fiscal balance (as a percentage of total revenue) is given in Figure 3. There was an overall provincial deficit in 2017 with Khyber-Pakhtunkhwa (KP) facing the highest deficit. In 2018, KP had a revenue surplus while the rest of the provinces were deficit provinces with Sindh having the highest deficit. On the other hand, the following year, there was an overall surplus in all provinces with the highest surplus in Sindh. Again, in 2020, Punjab and KP were the deficit provinces, but the volume of deficit was relatively small.