Resource Distribution Mechanism in Pakistan: A Critical Review

ABSTRACT

This study reports important literature on resource distribution in Pakistan. Resource distribution is a vast policy area having three different dimensions including federal to provinces transfers, provincial to local governments transfers and direct transfers from federal to local governments. This study specifically concentrate on the first proposition, hence, analyses literature on National Finance Commission awards (NFC) in Pakistan. There is handsome literature available on resource distribution in Pakistan but a major chunk seems to be repetitive given the stagnant state of affairs in Pakistan. For analysis, studies have mainly relied on three methodological spheres including thematic analysis, basic arithmetic estimates and the econometric techniques that frame the cause and effect dimensions of fiscal resource distribution. Papers, as obvious, adopted thematic analysis while discussing the resource distribution mechanisms overtime. The papers broadly structured the discussion around different NFC awards and explained the changes and disagreements among the stakeholders. These studies enable the reader to understand the historical overview of the resource distribution in Pakistan. The second strand of discussion on resource distribution consists of the studies that have presented arithmetic estimates to discuss the current or suggested resource distribution and their implications on provincial resource availability. Lastly, a number of studies have resorted to econometric techniques to report the impact of fiscal decentralisation on different economic and social indicators namely economic growth, public expenditure efficiency, health, education, poverty, infrastructure as well as governance and corruption. These studies have worked out the cause and effect analysis and commented on the effectiveness of fiscal resource distribution in Pakistan employing different dependent variables. To summarize, this study agrees that NFC award of 2010 is a step forward in the stagnant affairs of resource distribution in Pakistan, nevertheless, the current formula as well as the resource distribution mechanism is still far from optimal in true sense.

1.INTRODUCTION

Functioning federal system needs a coherent, vibrant and effective interaction between the centre and the federating units. Once the constitutional prerequisites are accomplished, the most important condition to make a federation work is the functioning financial arrangements. Resource generation, its apt availability and efficient utilisation is what the representatives compete for in the federal and provincial governments, so to make their electorate satisfied. Thus, representatives at both the tiers are competing against each other for resources, which represents a paradox. Hence, clarity in constitutional mandate as well as in fiscal responsibilities is important to mitigate negative competition. Efficient resource distribution mechanism calls for the ideal Pareto efficient point where no further improvement is possible without imposing a cost on the other party. This can only be achieved through a dynamic resource distribution formula, which carries a balance between equity and efficiency thus is required to contain incentives for each tier to perform.

What is unique to Pakistan is that throughout its history the provinces always remained dependent on the financial assistance from the centre to provide basic services. The federal government continuously provided funds to provinces, having the excessive funds collected at the centre. The said practice, however, eroded provinces’ capacity as well as their willingness to raise revenues from potential indigenous resources, which is now proving an important issue despite having a clear mandate since 2010 (Ahmad, et al. 2021). Thus, the provinces always look to the centre to cover their expenses, which made them vulnerable and dependent. The situation continued until the 7th NFC award, as previously the federal government distributed a manageable portion of additional resources among the federating units. However, the situation reversed in 2010, when it was decided that 57.5 Percent of the total federal tax proceeds be horizontally divided among the provinces while centre is left with 42.5 Percent of the total divisible pool. However, the compromised federal budgetary situation is also attributed to its stubbornness not to let go the subjects and initiatives (hence the concerned ministries, authorities and departments) which were now purely provincial in nature after the 18th constitutional amendment e.g. poverty (BISP), Education (HEC/Single National Curriculum), Environment (Ministry of Climate Change) and Health (Ministry of National Health & DRAP).

Bottlenecks do exist and will persist until detailed analysis is undertaken. With respect to resource distribution in Pakistan, three issues need attention. Firstly, what mechanism of vertical inter-governmental transfers does Pakistan follows? Secondly, how the weights are being assigned to different criteria and lastly, the functionality and consistency of the forum to present amicable resource distribution formula. Talking of the first point, if we observe the global practices, the vertical transfers’ approaches are categorised in three: need based, equity based and efficiency based. Usually, the transition happens in the same order as mentioned and is tied to the country’s stages of development. Countries have also experimented by having a combination of the given.

Pakistan follows formula transfers approach to address vertical fiscal imbalances.

The mechanism though is not optimal. Studies have questioned the composition of National Finance Commission (NFC) and the subsequent consideration like inclusion of different indicators in the formula and their respective weightages. The given system is believed to be politically motivated and not based on rigorous analysis in Pakistan. This impression arises when one look at the composition of NFC, which is predominantly consisting of political representatives instead of experts in the field. As far as the second point regarding the selection of criteria and assigning their weights is concerned, the situation in Pakistan is not ideal. While deciding the NFC award in 2009, the commission failed to share any analytical evidence (other than brainstorming) to support the rationale for selecting certain criterion or their respective weights. Similarly, allocating different weights to each of the four criteria also needs to be based on sufficient analysis to understand the individual impact of each and hence to develop different scenarios. This is even more important when the stated aim of 2010 NFC award was diversification but still population criterion is continued as a dominant indicator with 82 Percent weightage. Therefore, there is need to investigate literature that how resource distribution formula can be made in a better way, based on international experience, local context and ground realities.

Lastly, in order to understand the underlying basis of failures for NFCs, we need to understand the political economy of NFC forum and compare it to the one in vogue internationally. Unanimity rule being adopted for approval of the NFC has led to recurrent deadlocks; hence, we need to investigate what literature offers on this. Is efficiency factor intentionally being ignored or just assigned an insignificant weightage? The available literature is likely to guide on the aforementioned issues. Thus, it is important to understand the political economy perspective of NFC, which is pivotal for the whole resource distribution mechanism and the dynamics attached to it.

Resource distribution in Pakistan has always remained a bone of contention (Ahmad, et al. 2007). Historically, Pakistan has excessively remained a centralised federation, with the federal government having vast powers to collect revenues, leaving provinces with exhausted avenues for revenue raising (unless new initiatives at provincial level are undertaken). The 7th NFC award (2010) was a bold step in our resource distribution history, however, the situation demands further analysis to search for an optimal resource distribution mechanism. This is important so that no one can externalise their inefficiencies on the other member of the federation. There is a need for new formula, which can induce the centre and provinces to put in their maximum effort for optimal resource generation and to ensure spending efficiency in order to achieve the highest possible shared prosperity (Ahmad, et al. 2021). The required mechanism need a deeper analysis to assess the needs of the population as well as the potential of the jurisdiction so that no one gets a free lunch. An updated NFC formula is required not only to fulfil the expenditure needs (in wake of population needs or cost disabilities) but also to have sufficient incentives to reward efficiency and efforts. Hence, this study aims to collect evidence for the upcoming NFC formula and compile evidence on the required institutional, political and financial preconditions. The aim is to learn from available literature about best possible solutions and indicate the criteria used to proxy needs, performance as well as to pen down set of right incentives to each federating unit to perform optimally for long term goals

2.RESOURCE DISTRIBUTION MECHANISM IN PAKISTAN

Article 160 of the 1973 Constitution of Pakistan states that, “Federal Government will set up a National Finance Commission (NFC) at an interval of no more than 5 years for distribution of resources among federation and its units”. Provinces are also required to form Provincial Finance Commission (PFC) for further redistribution of provincial resource among the lower tires. Thus, the resource distribution mechanism is clear in terms of Constitution but there still are issues in the adopted mechanism and its implementation in true spirit.

Since 1973 to date, at least ten NFCs awards were to be announced constitutionally. However, due to political instability and deadlocks, only five NFCs have been announced (Ahmad et al., 2007). These include, the NFC awards of 1974, 1991, 1996, the Presidential Order of 2006 while latest is the NFC award of 2010. Out of these, four had brought certain phenomenal changes (including the one for 1991, 1996, 2006 and 2010) with the last being unprecedented in terms of facilitating the provinces and diversifying the resource distribution criteria.

Historically, the horizontal share of the divisible pool was apportioned amongst the provinces on per capita basis until 2009. This was despite the fact that provinces were demanding for the inclusion of different indictors to their advantage. In addition, provinces were also demanding for greater share out the divisible pool. Their demands bore fruits in 2006 NFC award, which though was implemented through a presidential order. In 2008-09, major breakthroughs occurred like completion of tenure of elected government, first democratic transition of elected government and above all the 18^th constitutional amendment. Same was the period when deadlock on national finance commission had also come to an end. In 2009, the formula for resource distribution was revised in 7th NFC and provincial share was increased to 57.5 Percent. Moreover, in the 7th NFC award, multiple indicators criteria was also introduced for horisontal resource distribution which was a mile stone.

2.1 Commentary on the NFC award-2010

Higher transfers from the federal government to provinces (57.5 Percent of total federal taxes) under the NFC award-2010 was applauded from the provincial autonomy perspective. However, such arrangement is unique in the sense that no other country makes such high transfers to subnational tiers. As obvious, this tilted arrangement has given birth to financial problems at the federal level, which is by no mean sustainable in the long run (GoP, 2009). The NFC report by the government of Pakistan itself states that members were briefed that “Under the options proposed, the overall fiscal deficit would neither be consistent with the one agreed with International Monetary Fund (IMF) nor desirable for a stable economy”. Yet, the award with proposed apportioning was announced and Pakistan is facing hard fiscal conditions 15 years down the road. 

The 18th Constitutional Amendment along with the 7th NFC award-2010 are viewed as a turning point in the constitutional and fiscal history of Pakistan. The amendment delegated 47 subjects including education, health, tourism, environment, culture, women development etc. to the provinces, accepting their mandate for service delivery. The 7th NFC not only carved out fiscal resources from the divisible pool but also boosted the provincial tax-base by recognising the provinces’ rights over services tax and capital value tax (CVT) on immovable property to back their novel responsibilities. It also acknowledged the provinces’ right to their natural resources by promising royalties. These steps helped the provinces increase their incomes, enabling them to spend more on development and delivery of public service to their citizens. However, fifteen years down the road, it has proved only a step towards a very far laying destination. Miles have to be covered yet as NFC formula seems to be deficient of enough performance incentives.

The 7th NFC award, despite being promising, carries certain issues which need attention. The NFC report (GoP, 2009) elaborates that in addition to vertical distribution, the weights for horizontal distribution were also decided arbitrarily without sufficient evidence and analysis on the implications is missing. Following the announcement, the situation worsened as there are unfulfilled promises related to the 7th NFC award e.g. raising Tax to GDP ratio to 15 Percent by 2014/15, generating surpluses in provincial budgets and maintaining low inflation rate. The historic lethargy in generating own revenues at provincial level still continues and only the low hanging fruits like taxes on property, hotel industry or communication services are pursued. Whereas, taxes on professions (like professionals (doctors, engineers, lawyers) and retail etc.) along with tax on agriculture sector (and sector trades) are still to realize actual revenue potential.

Furthermore, the award turned a blind eye to the needs of the centre especially related to debt servicing and defence. The current fiscal resource distribution mechanism has left the centre handicapped to take any immediate policy initiative having financial implications (e.g. natural calamity in the form of Covid-19/ floods, development needs of erstwhile FATA, agricultural catastrophe like locust attack etc.). The 18th constitutional amendment has also played an important role in further complicating the situation as the federal government is in a compromised situation to get into or fulfil international agreements as a number of ministries (including the environment) have been devolved to the provinces. This by no means imply that resources be centralised again but in fact a workable solution is necessary which can take care of the urgent national responsibilities as well as reward fiscal effort and discipline. We have also seen federal government encroaching into provincial mandates (e.g. BISP, discretionary spending, PSDP addressing local issues and alike), which also needs to be checked. Hence, spending appropriations as per constitutional mandate and avoidance of duplication of effort needs to be checked through prudent fiscal discipline. These can only be achieved if we do away with discretionary spending and resort to evidence-based systematic transfers.

Certain provisions of the 18^th amendment have also made the award inflexible in certain ways. The 18th constitutional amendment required that the provinces’ share shall not be less than what is decided in 2009 NFC award. This non-flexibility clause added to the complexity of resource distribution and distorted the dynamism of the mechanism (Ahmad, et al. 2021). This is reflected in the deadlocks experienced in the following years with no NFC awards (third consecutive commission have failed so far to fulfil the constitutional requirement and present an award). The reasons are obvious that there are no incentives for the provinces to sit and revisit, as the federal government has nothing more to offer.