The National Finance Commission (NFC) Award has been a contentious subject of discussion, especially since the IMF has started pushing Pakistan to reassess it to address the imbalance in fiscal resource distribution between the Centre and provinces.
The international financial lender has pointed out concerns regarding the present allocation of resources and responsibilities, underscoring the need for a more equitable arrangement. The existing NFC formula established in 2010 was initially agreed upon for a five-year duration, but since the expiry of the 7th Award in 2015, there has been no consensus to re-evaluate or amend it. According to the revenue-sharing formula ushered in by the last NFC Award, 58% of the total tax revenues today are being devolved to the provinces while the Centre only gets 42% of the share.
Considering the extensive scope of the federal government’s role in allocating budgets to numerous ministries and departments working in collaboration with provincial entities, as well as financially supporting various initiatives for infrastructure development, public health, social welfare and poverty alleviation nationwide, the government must have adequate resources. Additionally, allocating funds to the Azad Jammu & Kashmir and Gilgit-Baltistan regions from the federal share of the NFC Award further emphasises the need for sufficient resources. The imbalance of share between the Centre and provinces has contributed to persistent fiscal challenges and an increase in national debt. The current NFC’s formula is based on multiple indicators including poverty and backwardness (10.3%), revenue collection (5%), inverse population density (2.7%) and predominantly on population (82%), which has undermined its initial goal of addressing fiscal imbalances among the federating units. As a result, the federal resources still disproportionately favour provinces with larger populations. Conversely, the Indian Finance Commission has decreased the weightage given to population distribution to 25%.
Reconsidering the NFC Award to rectify the imbalance in the distribution of tax resources between the Centre and provinces would entail provinces cutting their expenditures to achieve a fiscal surplus. This would enable them to assume greater financial responsibilities alongside the federation, thereby reducing the country’s growing consolidated fiscal deficit. Nonetheless, addressing this challenge would first require an amendment to Article 160 of the Constitution that prohibits reducing the provincial share in the NFC Award – something which requires a two-thirds majority in the parliament. Second, garnering provincial backing for such reforms, especially in a politically diverse landscape, would pose a significant challenge for the coalition government. Third, obtaining consent from all four provincial governments is a daunting task, and seems uncertain, especially when parties like the PPP strongly advocate for the NFC Award.
Attempting to resolve fiscal dysfunction by reversing NFC allocations may not yield the desired outcomes. It may offer temporary fiscal relief to the federal government, making net federal revenues positive again, albeit by a slim margin. However, the fiscal cost will accumulate as provinces struggle to fund essential expenditures on health and education. This will lead to increased pressures to allocate resources towards salary hikes, pensions, imprudent development projects and subsidies, all aimed at stimulating growth. Consequently, the fiscal constraints will intensify within 12 to 24 months, but even this timeframe is optimistic.
Relying on short-term fixes and superficial measures to address escalating fiscal issues is ill-advised. Our nation’s history serves as a testament to the pitfalls of such approaches. The core issue lies in the fact that the most rapidly expanding sectors of our economy, particularly the services sector, operate without proper documentation. Without expanding the tax base, promoting formalisation and tapping into potential revenue growth through broadening and formalisation, efforts to optimise limited resources through short-term tactics are futile.
Simultaneously, the cost the nation would incur to reverse the NFC Award would be substantial, and its detrimental effects would manifest gradually but inevitably. Also, in case of the reversal, the federation’s strength will diminish and the Constitution, which has already been significantly undermined, will lose its remaining credibility, especially after the recent legislative spree. The incumbent government should resist any attempts to reverse the provincial allocations outlined in the latest NFC Award. Treating a severe wound merely with a band-aid is not a viable solution.
Published in The Express Tribune, April 5th, 2024.
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