The elephant in the room

NFC Award, 18th Amendment lead to undesired outcomes for federal govt

ISLAMABAD:

It’s been about 14 to 15 years since the 18th Constitutional Amendment and the preceding 7th NFC Award; both have now come of age.

The amendment resulted in many good outcomes, through its 102 amendments. However, two (out of the 100-plus amendments), which govern the division of revenues between provinces and the federation, have led to some undesired consequences for financial management of the federal government and the country.

As a result, the federal government, right from day one of the financial year, is unable to meet its expenses with its revenue resources. The borrowing to cover these expenses is increasing day by day, and if this continues, without any corrective action, the federation may face a tangible threat of insolvency.

From the year 2010 to date, the pattern of increase in federal debt makes it clear that the current system of resource distribution and the current method of resource acquisition are not sustainable. While most political parties are not interested in changing this arrangement, the Economic Survey 2023-24 presents quite a frightening picture for those with discerning minds.

The conditions before and after 2010 give a stark comparison. Before 2010, the federal government was standing on its own feet, but afterwards, it has been relying heavily on crutches provided by lenders. The visibly steep rise, especially in domestic debt, should be an eye opener.

The federal government is expected to receive a total of Rs9,119 billion of its share in tax revenue and through non-tax revenue in the next fiscal year. Against this revenue, there is a gaping expenditure of Rs18,877 billion – Rs9,775 billion on debt servicing and Rs9,102 billion on federal subjects/ departments.

These include national defence, national highways, railways, electricity, gas and petroleum transmission, import/export, tax collection, currency, financial institutions, shipping, aviation, space programmes, NADRA, passports, federal services, courts, insurance, stock exchange, international agreements, parliament, Election Commission, regulatory authorities, census, inter-provincial coordination/trade, and standards/ prices of medicines).

So, we end up with a shortfall requiring an additional Rs9,102 billion to meet the expenditure.

Total revenue is not even enough to pay for debt servicing alone, which is Rs656 billion more than the revenue, meaning that loans will be needed even to pay the debt and the interest thereon, what to speak of other constitutional expenses. This situation has persisted for several years now.

Even if the federal government eliminates expenses on income support, provincial development programmes and public facilities (utility stores, fertiliser subsidy, wheat/ sugar/ fertiliser imports, etc), which have become provincial responsibilities after the 18th amendment, it will only reduce expenses by Rs1,500 billion.

And it will still be left with estimated expenses of Rs8,256 billion (without debt servicing). By further reducing its size, the federal government can save, say, another Rs100 billion.

The point is that no matter what the federal government does, it will not be able to meet an expenditure of Rs18,877 billion (or even Rs17,377 billion after tightening its belt) out of a paltry revenue of Rs9,119 billion. It will, in any case, require at least an additional loan of Rs8,256 billion and the amount of debt and its payments will go on increasing every year.

Provinces rightly object that the federal government should increase its revenue and avoid further loans. The problem with this argument is that since 2010, it is written in the constitution that any new or old taxes imposed and collected in the name of the federation will be distributed under the NFC Award. Furthermore, in any future NFC Award, the provinces’ (57.5%) share can be increased from the current rate but cannot be reduced.

In the last NFC Award, the provinces were given about 57.5% of the total tax revenue, while the federation received 42.5%. After accounting for expenses in Azad Kashmir, Gilgit-Baltistan and tribal areas, the federation’s share is only 40%.

Since the federation’s share is only 40%, so even if it eliminates all unnecessary expenditures, it will still need to collect Rs20,640 billion in additional taxes to cover the Rs8,256 billion shortfall, of which Rs8,256 billion will go to the federation and Rs12,384 billion to provinces.

This will mean increasing the FBR’s target from the current Rs12,970 billion to Rs33,610 billion, which is nearly two and a half times more than the economy’s capacity.

Collecting such a large amount of taxes is impossible, and even if it is collected, all economic activities, including agriculture and industry, will come to a halt. (Taxes are like blood donations; if more than a certain amount is taken at a time, economic life is endangered).

It is an alarming situation and seriousness is increasing day by day. It’s the huge elephant in the room; nobody is noticing or talking about. We cannot just close our eyes like the proverbial pigeon and think it does not exist.

Leaders and elders need to consider that the current system of resource acquisition and distribution requires immediate changes.

There is no doubt that reducing the resources and scope of provincial governments is not in the national interest, but it should also be remembered that without a meaningful and economically stable federation, the provinces’ own existence could be uncertain.

Without a viable federation, our defence and justice systems, along with almost all national institutions, could be deprived of the essential minimum resources.

Many solutions can be found without tampering with the 18th Constitutional Amendment and the NFC agreement, and some solutions can emerge with minor corrections to these amendments.

In India, Germany, Canada, Australia and the United States, many solutions have been found in this world’s largest federal systems of government, which we can emulate to solve our issues.

For example, in Germany, all federal, provincial and local taxes are collected by provinces and then 45% is given to the provinces, 45% to the federation and 10% to local governments.

In India, not only does the federal government have a larger share than the provinces, but the system for collecting sales tax has also become an integrated VAT of goods and services. The United States has a completely different system.

In our case, it is also possible that if the application of loan money can be traced to a province (after all, this Rs67 trillion loan was not spent in Islamabad), then they can be made to share in loan repayment and it is also possible that until the loan is repaid easily, the federation may be given exclusive rights to some taxes (to prevent the misuse of this facility; a timeline and loan repayment targets can also be set).

However, the current arrangement, if allowed to continue, can cause much more trouble in the future, and it is the need of the hour for all provinces, the federation and economic experts to sit together, acknowledge the presence of this elephant and find viable remedies.

The writer is a career civil servant and a public development policy practitioner