Saturday, November 26, 2011

Daily Times: 2 important developments: NFC Award and ratification of 18th Amendment

Saturday, November 26, 2011

2 important developments: NFC Award and ratification of 18th Amendment

Staff Report

KARACHI: Two extremely important developments have taken place in Pakistan recently - the announcement of the 7th National Finance Commission (NFC) Award in November 2009 and the parliament’s ratification of the 18th Amendment in April 2010.

Under the NFC Award an unprecedented 56 percent of revenue constituting divisible resources has been committed to the provinces.

Under the 18th Amendment 18 ministries have been devolved from the Centre to the provinces.

Together, the two initiatives aim at fundamentally restructuring the fiscal and functional equation between the central and provincial governments in the country.

Although the 18th Amendment is expansive in scope, the primary purpose of this study is to focus on the intergovernmental financial aspect of the process of devolution.

The study includes an assessment of the current public finance management practices of provincial governments and the human resource and regulatory impact likely to arise out of the restructuring exercise.

Eighteen ministries stand devolved to the provinces as a result of the amendment. The intent is to have a more rational and balanced distribution of functions between the federal and provincial governments, thereby leading to improved service delivery.

Amendments on the fiscal side are relatively minor; sales tax on services and capital value tax (CVT) on immovable property have been explicitly recognised as revenue sources in provincial jurisdiction.

The aim is to begin enhancing provincial own-tax revenue and curtailing dependence on federal transfers.

The roles of two councils, the Council of Common Interest (CCI) and the National Economic Council (NEC) have been enhanced.

The amendment states that future NFCs shall not reduce the share of resources allocated to the provinces by a previous commission. Provisions to monitor the implementation of the award have also been included. Provinces have been entitled to the entire proceeds of the excise duty on oil and natural gas, in addition to being given the authority to raise domestic or foreign loans with the consent of the federal government.

The office of the Auditor General of Pakistan (AGP) has been strengthened, giving it a constitutional four-year term of office. It has also been empowered to audit accounts of the federal and provincial governments and all of their bodies, corporations, and authorities.

An Implementation Commission (IC) was set up under Clause (9) of Article 270AA to monitor the devolution process. Members of the parliament constituted the IC under the chairmanship of Senator Raza Rabbani.

Although the share in total transfers for Sindh and Punjab show a small reduction compared to previous awards, the absolute rupee amount available to all provinces has increased: the largest increase in absolute value is for Balochistan (142 percent) and the smallest is for Sindh (40 percent).

Despite the increase, the provincial governments contend that the devolved responsibilities should be funded with additional revenue commitments by the federal government.

The federal and provincial governments differ over the distribution of some financial assets. Examples include the Workers’ Welfare Fund (WWF) and the Employees’ Old-Age Benefits Institution (EOBI). The WWF’s financial deposits are estimated at Rs 81 billion while the EOBI has assets worth Rs 148 billion.

The distribution of assets owned by autonomous bodies and attached departments of devolved ministries is also proving to be contentious as provinces are demanding the equitable distribution of assets, including that of geographically immovable fixed assets.

Overall, the budgeted increase in revenue transfers to provinces due to the 7th NFC Award in relation to the Presidential Order of 2006 is Rs 222 billion in 2010-11.

However, an important issue has been the actual realisation of this budgeted gain.

The total amount of transfers as envisaged by the 7th NFC Award is likely to be diluted by an estimated Rs 180 billion as a result of lower-than-expected resource generation and the 50 percent increase in salaries of government employees announced by federal authorities.

Overall, the cost of salary increases alone is estimated at about Rs 120 billion for the four provincial governments combined.

This will leave the provinces with net transfers of Rs 49 billion for 2010-11. Assuming that this state of affairs persists beyond this year, provincial annual liability for development projects alone would be of the order of Rs 51 billion. Around Rs 6-7 billion need to be added to this amount to reflect current expenditure on the functions being transferred to the provinces, bringing the additional annual burden on them to an estimated Rs 9-10 billion.

The NFC document clearly states the ‘provinces would initiate steps to effectively tax the agriculture and real estate sectors. Federal government and provincial governments may take necessary administrative and legislative steps accordingly’. There are indications that the regulatory system will come under stress as a result of devolution in the area of social services delivery.

For instance, the decision to devolve the Higher Education Commission (HEC), the agency responsible for developing education curriculums, was challenged in the Supreme Court. As a result, the process initiated as part of the devolution exercise was put on hold for further review by the CCI. Similarly, the decision to devolve the Ministry of Health (MoH) has raised concerns about the country’s international obligations such as commitment to the Millennium Development Goals (MDGs).

Punjab has reviewed 126 pieces of legislation and has prepared amendments to 27 of them. In Khyber Pakhtunkhwa (KP), Sindh and Balochistan, some progress has been made on the amendment and adoption of regulations required to receive and deliver functions devolved under the 18th Amendment.

Access to increased finances may result in increased current expenses by the provinces, at least in the short-term. Past experience indicates that this is usually due to sanctioning expenses that have been kept on hold in tighter budgetary scenarios, and include maintenance, procurement, and renewal of hardware. It is clear that the federal government’s fiscal position will deteriorate. Revenue receipts available to the federal government after provincial transfers are in the range of 55-64 percent of total expenditure.

Since federal expenditure is unlikely to fall in the short-term given its components of debt service payments and military expenses, the need to augment federal and provincial resources cannot be overemphasized.

It appears additional revenue transfers due to the 7th NFC Award will not be enough to finance the additional liability arising from the transfer of functions under the 18th Amendment.

Since the focus for development is largely expected to shift to the provinces along with simultaneous shrinkage in federal resource availability, sharper prioritization and rationalization of the federal PSDP has become indispensible.

Currently, the throw-forward of federal projects exceeds Rs 2.5 trillion for 2,000 projects under implementation. With an annual PSDP of more than Rs 200–300 billion, on-going projects may take up to 15 years to complete, which implies huge time and cost overruns.

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