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| 09 February 2004 | Monday | 17 Zilhaj 1424 |
NFC: behind a screen of percentages
A false perception of increasing the fiscal share of provinces is being created by repeatedly propagating the proposed 50 per cent share of the provinces in the divisible pool of taxes in the next NFC.
If we work out, what was the total size of the divisible pool and how much this percentage worked out to in terms of actual transfers we will see that these figures are very meager and disappointing.
This is besides the fact that the subvention pool of RS 20 billion has also been done away with. Nobody would shed a tear for its being scrapped, because it had existed only on paper. As we saw during this year's disaster in Thatta and Badin, the funds lying in the subvention pool were hardly used. However, the political message that provinces have now to be on their own and the federal government would not lend any support if they faced unforeseen problems is a grossly negative one.
The size of the divisible pool as reported in this newspaper is Rs176 billion. The share to be distributed among the provinces at 50 per cent of the pool works out to be 88 billion. For calculation's sake, deduct from this figure the Rs20 billion previously earmarked for the subvention pool. The net figure comes to Rs68 billion. Even as a percentage it works out to be a mere 38.6 per cent of the divisible pool. Where then is the increase?
Just to give a quick comparison the transfers to the provinces in fiscal 1995-96 (when I had the honor of representing Sindh on the National Finance Commission) were nearly Rs106 billion as per details given below.
Baluchistan : Rs5.615bn
Sindh : Rs24.663 bn
NWFP: Rs14.345 bn
Punjab : Rs61.322 bn
Total: Rs105.945 bn
Besides it was understood that the Federation would pick up expenses on providing relief to the provinces resulting from unexpected situations, like it did during the 1994 floods or when Sindh faced an insurgency in 1995.
Provincial expenditures have been rising at an annual rate of around 18 per cent, while in terms of actual funds transferred to province there has been a reduction of a good Rs38 billion in the last 9 years. No wonder provinces are hard put to even pay the salaries of their employees, not withstanding the fact that the number of employees in the provincial governments stand greatly reduced because of zero job openings, large number of retirements and retrenchments. Development work is something the provinces can hardly think of.
Which taxes is the divisible pool composed of? That is the first question to be considered. What are and have been the amounts collected under those tax heads? In what proportion is the divisible pool divided between the federal government and the provinces and what amounts are made available to be divided amongst the four provinces?
Lastly, what is the criterion or formula according to which the share of each province is determined from the funds available for the provinces? Each of these steps is important. But if the first step i.e. the volume of the pool to be divided between the Federation and the provinces is not large enough, we have scarcity down the line ending up with insufficient transfers to each province.
Apart from the taxes and incomes collected by the Federation and transferred directly to individual provinces under the provisions of Article 161 of the Constitution, there are other taxes collected by the Federation some of which go directly to the Federation while there are others which are put together in a pool which is divided at the first stage between the Federation and the provinces and at the second stage the total funds going to the four provinces are divided amongst the provinces. The details of these taxes in 1995-96 were as under.
Taxes going directly to the Federation: Custom duties, central excise duties and wealth tax.
Taxes going to the divisible pool: Income tax, sales tax and central excise duty on sugar and tobacco.
This pool was divided between the Federation and the provinces in a ratio of 20: 80. The Federation deducted another average 5 per cent of the amounts transferred to the provinces as the collection charges of the various taxes. Thus about 76 % of the divisible pool was actually transferred to the provinces. This was divided amongst the provinces in ratio of their respective population.
Central excise on sugar and tobacco was removed from the divisible pool, when the original Terms of Reference were given by the President to the National Finance Commission formed in the end of 1995. This meant a reduction of Rs18.6 billion in the net divisible pool, which would have resulted in depletion of Rs14 .136 billion in the funds going to the provinces.
The reduction for Sindh was expected to be to the tune of Rs3 billion. Sindh brought up the matter in a letter to the President saying that perhaps this tax had been "inadvertently" left out of the divisible pool and it should be included again. Prompt came the reply that there had been no mistake. The Federation was finding it difficult to meet its expanses, especially at a time when the custom duties were being reduced.
The position of taxes and incomes transferred to individual provinces under the provisions of Article 161 of the Constitution is also grossly questionable. The whole idea behind these constitutional provisions is that any incomes or taxes accruing to the Federation from development projects based on the natural resources of a province shall go to the province whose resource was being used. However, the Federation has not been following the accounting principles laid down by its own consultants for calculating the profits made in the hydro-electric stations located in NWFP (Tarbela).
Taxes collected at gas wellheads have been given names like Gas Development Surcharge in order to bypass the constitutional provision of transferring excise duty and royalty collected at gas wellheads to the particular province. There is also lot of substance in the complaint of the province of Baluchistan that while the investments in Sui and Pir Koh gas field was made at the rates prevailing 40 years ago, their gas was being sold at the present rates. Thus the profits from these gas fields should be separately calculated and transferred to the province of Baluchistan.
In fiscal 1995-96, Sindh had received about Rs2 billion more than the estimated amounts. Instead of fighting on the issue of including excise duty on sugar and tabbaco in the divisible pool, Sindh opted for getting concessions elsewhere. In the opening NFC meeting we got a commitment from the federal government to use privatization proceeds to liquidate the provincial loans of all the provinces.
The federal government also agreed to pick up a large share of the law and order expanses in Sindh together with the expenses on a new project to coordinate and train the law enforcing departments of the four provinces.
The four provinces signed an agreement among themselves regarding the distribution of the divisible pool between the Federation and the provinces. This document demanded that the share of the provinces should be increased to 85 percent of the divisible pool, collection charges be reduced to 2 per cent of the funds transferred, hydro-electric profits be calculated on the formula given by the consultants of the federal government, all taxes collected on the gas wellheads be pooled and directly transferred to the provinces in which the wells were located and making sales tax on goods a provincial subject.
As explained above 76 per cent of the proceeds of the sales tax were already going to the provinces. Making this a provincial tax would imply that provinces got all the funds collected under this head. Also that each province directly received what it had collected inside its boundaries. This would have certainly enhanced the collection of this tax since the effort would be localized and the entire benefit would directly go to the province making the collection.
Baluchistan, Sindh and NWFP also decided to put up a joint proposal for the distribution of available funds amongst the provinces. They also jointly drafted the proposal, which reduced the weightage to population to 75 per cent and gave weightage to other factors like, collection, production, backwardness, area and population control. The whole idea was to give importance to those factors and work out arrangements, which increased the national output, growth of economy and collection of revenue.
About a month before the Benazir government and with it the National Finance Commission was dissolved, we were informed through an unsigned communication that the President had changed the Terms of Reference of the National Finance Commission. The divisible pool had been abolished and the concept of fiscal federalism was introduced.
Under this concept all the taxes, (except those taxes and incomes collected under Article 161 of the Constitution and going directly to the concerned provinces) had to be pooled in a single pool called the National Tax Pool and these were to be divided between the Federation and the provinces. I want to say it on record that we were told that this was an IMF requirement, and the least that the IMF wanted at that moment was that the provinces should agree to consider this new arrangement. The reasons were obvious.
The IMF was concerned with the deficits of the federal budget, which in their view could be achieved by curtailing allocations for development, social sectors and transfers of funds to the provinces. The taxes included in the divisible pool had been showing very high rates of growth during the previous five years.
Taxes going directly to the Federation were not showing that high a rate of growth. Further there was pressure to reduce the custom duties, which would have further retarded the growth rate of this tax, which was going directly to the Federation. The following table demonstrates the respective collections and rates of growth.
1990-91 1996-97 annual
(R.E.) (B.E) growth
rate (%)
Divisible pool taxes:
Income tax 19. 101 85. 241 28. 3
Sales tax 20. 000 82.483 26. 6
Taxes going directly to the Federation:
Customs duties 54. 100 105.795 14. 3
Excise duties 26. 500 58.105 14.0
Wealth tax, CVT 0. 899 3.637 26.2
Excise on sugar and tobacco (now claimed by the Federation). 12.780 18.600 6.5
The effect of pooling all these taxes (high growth and low growth) in the National Tax Pool would have been that the growth rate of the pool would have come to 18 percent per year. (Collections in wealth tax were negligible and later Nawaz Sharif government abolished this tax).
The effect of having a fixed percentage of the pool going to the Federation would have been that the Federation would have received increased funds every year and the share of the provinces in terms of actual funds transferred would have reduced every year.
The provinces had received Rs105. 945 billion out of the net revenues (excluding collection charges) of Rs245. 597 billion. Thus their share in the proposed National Tax Pool worked out to be 43.137 per cent.
Our calculations showed that if the distribution ratio was fixed at this percentage then down the line in fiscal 2000-01, the proposed changes would result in transfers to provinces of Rs295.929 billion in place of Rs350. 283 billion under the old arrangements.
The gap between the transfers to provinces under the old arrangement and the new arrangement was a constantly increasing gap. We calculated that as an aggregate over the 5 year NFC period, Sindh alone stood to loose around Rs52 billion.
We proposed that in order to preserve revenue neutrality provinces should receive 44.756 per cent of the proposed National Tax Pool in fiscal 1996-97 and this share should be increased by one per cent every year. Or the share of the provinces over the 5-year period of the NFC should be fixed at flat 48.496 per cent of the divisible pool. But preserving revenue neutrality between the Federation and the provinces was not the idea. The whole idea was to transfer more and more resources to the Federation in order to meet the IMF conditionality of reducing budgetary deficit.
We were sacked. The caretaker government signed the new NFC Award under the new terms of reference. The nationalist leader, Mr. Mumtaz Ali Bhutto, headed the provincial caretaker government in Sindh, which signed the new NFC Award.
The wheel has turned in the opposite direction ever since. The share of provinces in the National Tax Pool has been brought down to around 37 percent. What is most alarming is the fact that economic stagnation resulting from blindly following the IMF dictates has resulted in the worst revenue crisis and in spite of taxes being ruthlessly increased the total collections have hit a plateau.
There is no money going around. Where from can the governments collect taxes? The NFC of the caretaker government had made correct revenue growth projections by basing its calculations on the revenue growth rates obtained during the previous 5 years. The reasons for not being able to achieve even 40 per cent of those projections are elsewhere.
The government has dropped the concept of the National Tax Pool. The divisible pool is again in place with the difference that taxes that collect high revenues have been excluded from the divisible pool.
Taxes on petroleum and its products, which have broken the back of the people and the national economy, are outside the divisible pool. The bare fact is that the volume of the divisible pool is a mere Rs176 billion. How much is there to distribute and how much can the provinces hope for?
Had the previous distribution arrangements and revenue growth rates been maintained, then, as I have submitted earlier, the transfers to the provinces should have been Rs350.283 billion in fiscal 2000-01. These should have crossed the Rs550 billion mark in fiscal 2004-05.
The volume of the revenue disaster should be gauged from the fact that provinces stand to receive a mere Rs68 billion in the next fiscal year, a drop of Rs38 billion from what they had received 9 years back. Can this national disaster be covered behind a screen of percentages?
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