Provincial Accountability in Pakistan’s Fiscal Federalism

Introduction to Fiscal Mismanagement in Pakistan

Pakistan’s fiscal management has long been a challenge to its economic stability. With poor revenue mobilization and unchecked government expenditure, the country continues to face a growing fiscal crisis. One of the key issues is the over-reliance of provincial governments on the federal government for revenue. At the same time, provincial governments have failed to strengthen their own revenue collection systems, contributing to an unsustainable fiscal imbalance. This article explores the National Fiscal Pact (NFP) as a potential solution to address these deep-rooted inefficiencies, while also considering whether it can resolve Pakistan’s fiscal mismanagement.

The Current Fiscal Landscape

Overview of Fiscal Challenges

Pakistan’s fiscal situation has been exacerbated by a variety of factors. The federal government collects the majority of the country’s revenue—around 90%—while the provinces contribute a meager 1% of the tax-to-GDP ratio. According to the Ministry of Finance, total tax collection by all four provinces amounted to only Rs774.20 billion in FY24, in stark contrast to a staggering Rs2,683.88 billion in expenditures. This imbalance highlights the urgent need for provinces to take on more responsibility for their own financial management.

The issue is further compounded by the 7th National Finance Commission (NFC) Award passed in 2010, which mandates that 57% of the federal government’s revenues be transferred to the provinces. While this revenue sharing is meant to promote provincial development, it has led to a reliance on the federal government, which in turn has led to increased borrowing to cover the deficit. Pakistan’s public debt has risen dramatically from Rs9 trillion in 2010 to Rs67 trillion in 2024, reflecting fiscal mismanagement at both federal and provincial levels.

The Role of the IMF and the National Fiscal Pact (NFP)

The International Monetary Fund (IMF) has played a significant role in encouraging fiscal reforms in Pakistan. The IMF has included the National Fiscal Pact (NFP) as part of its program, which aims to address fiscal imbalances by increasing the tax collection efforts of provincial governments. The NFP seeks to align provincial and federal taxation policies and ensure that provinces contribute more to the national revenue pool.

The NFP also contains provisions aimed at addressing specific inefficiencies in the fiscal system. For example, the pact aims to prevent provincial governments from setting agriculture support prices, which has long been a source of fiscal inefficiency. The overall goal is to redistribute revenues more equitably and encourage provincial governments to become more accountable in their fiscal management.

Key Aspects of the National Fiscal Pact (NFP)

The Need for Increased Revenue Collection by Provinces

The primary focus of the NFP is on increasing provincial revenue generation, particularly from sectors that have historically been under-taxed, such as agriculture. The agricultural sector in Pakistan contributes significantly to the economy but remains largely untaxed, leading to lost revenue. Under the NFP, provincial governments are expected to address this issue by improving tax collection from agriculture and other sectors.

Challenges with Expenditure Control

While the NFP emphasizes the importance of revenue generation, it does not place enough emphasis on expenditure control at the provincial level. Expenditure reduction is just as critical as increasing revenue collection, if not more so. Without proper fiscal discipline, provinces may end up collecting more taxes but still fail to control their spending, leading to continued fiscal mismanagement.

A more balanced approach would involve setting expenditure benchmarks for provinces. If provincial governments are required to manage their spending within the limits of their revenue collection, they would be forced to prioritize essential projects and reduce wasteful spending.

Incentivizing Provinces with Performance-Based Grants

To enhance accountability, the federal government could introduce performance-based grants that incentivize provinces to meet fiscal targets and adhere to revenue collection standards. These grants would reward provinces that successfully manage their finances, while penalizing those that fail to do so. This would encourage provincial governments to focus on efficiency and accountability, reducing the reliance on federal transfers.

Addressing Duplicity in Federal and Provincial Spending

Overlapping Expenditures

A major inefficiency in Pakistan’s fiscal system is the duplicity in federal and provincial spending. Since the 7th NFC Award, key sectors such as education, health, and agriculture have been devolved to provincial governments. However, the federal government continues to fund projects in these sectors, leading to overlap and inefficiency. This not only increases fiscal deficits but also contributes to the country’s rising debt levels.

For example, the federal government spent Rs328 billion on education and health projects in FY22, despite these sectors being under provincial jurisdiction. This duplicative spending could be reduced if the federal government stopped funding these devolved sectors and allowed provincial governments to take full responsibility for them. Eliminating this redundancy would reduce wasteful spending and allow provinces to manage their own budgets more effectively.

Shifting Social Protection Responsibilities to Provinces

The social protection sector, including programs like the Benazir Income Support Programme (BISP), is also a provincial responsibility. However, the federal government continues to allocate large sums of money to these programs, even though they fall under provincial jurisdiction. In the FY25 budget, the BISP allocation increased from Rs466 billion to Rs592 billion, despite the fact that provincial governments should be managing social protection.

By transferring the full responsibility for social protection to the provinces, the federal government could reduce unnecessary expenditure and improve coordination in this sector. This would also enable provinces to design and implement social protection programs tailored to their specific needs.

Transparency and Accountability in the NFP

Lack of Transparency in the NFP

One of the major concerns regarding the National Fiscal Pact is the lack of transparency. Despite being a crucial aspect of Pakistan’s fiscal future, the NFP has not been made public. This secrecy raises questions about the credibility of the pact and the intentions behind it. Without transparency, it is difficult for the public, civil society, and experts to engage in meaningful debates about the pact’s effectiveness and the potential consequences of its implementation.

In order for the NFP to gain the trust and support of the public, it is essential that the details of the pact be made transparent. This would allow for a more open discussion about the challenges and opportunities associated with fiscal federalism in Pakistan.

Revising the NFC Formula

The Need for a New NFC Formula

The current NFC distribution formula, which allocates 57% of federal revenue to provinces, is unsustainable in the long term. This is especially true given the federal government’s responsibility for debt servicing and defense spending, which consume nearly 75% of revenues. To ensure a more balanced fiscal approach, the NFC formula may need to be revised to reduce federal transfers to provinces and encourage them to increase their own revenue generation.

At the same time, the federal government could shift certain expenses to the provinces, further incentivizing them to improve their fiscal performance. This could include responsibilities for areas like defense and debt servicing, which are currently a burden on the federal government’s budget. By decentralizing these expenses, provinces would have greater incentive to manage their finances efficiently.

Conclusion: Will the NFP Fix Pakistan’s Fiscal Mismanagement?

While the National Fiscal Pact represents a step in the right direction by promoting provincial revenue generation and accountability, it is unlikely to resolve Pakistan’s fiscal mismanagement on its own. The NFP addresses important issues related to revenue generation and expenditure control, but it does not go far enough in addressing the deeper structural issues facing Pakistan’s fiscal system. To truly fix the country’s fiscal challenges, there needs to be a comprehensive approach that includes revenue generation, expenditure control, and fiscal decentralization.

The success of the NFP will depend on its implementation and the ability of provincial governments to take on greater fiscal responsibility. If the pact is successfully implemented, it could mark a turning point in Pakistan’s fiscal federalism. However, without meaningful reform and greater transparency, the country may continue to struggle with fiscal mismanagement for years to come.

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FAQs

1. What is the National Fiscal Pact (NFP)? The NFP is an agreement aimed at improving Pakistan’s fiscal management by encouraging provincial governments to raise tax collection and contribute more to national revenue.
2. How does the NFP address fiscal mismanagement? The NFP focuses on increasing revenue generation by provincial governments, particularly in sectors like agriculture, and improving fiscal accountability.
3. What is the role of the IMF in the NFP? The IMF has included the NFP in its program to promote fiscal reforms in Pakistan, ensuring that provincial governments are more involved in raising tax revenues.
4. Why is there a need for expenditure control at the provincial level? Without effective expenditure control, increasing revenue collection will not be sufficient to address fiscal imbalances. Provinces must manage their spending within their revenue collection capabilities.
5. What changes are needed to make the NFC formula more sustainable? The NFC distribution formula needs to be revised to reduce federal transfers to provinces, while shifting certain fiscal responsibilities to the provinces to ensure a more balanced approach