Given the severe financial constraints and funds required for the smooth execution of delayed national mega projects, the federation has reportedly decided not to continue financing provincial projects unless the federating units share costs.

The federation has committed to the international lenders to stop funding provincial projects and devolved subjects under the 18th Amendment, involving fiscal savings of more than Rs700 billion.

To help minimise the pressure on federal finances, the provinces are expected to not only meet their commitment of cash surpluses but also to prioritise development projects. To assist the federation in achieving the primary budget surplus target of 0.4 per cent, the provinces are required to return to the centre Rs600bn cash this year.

There is a huge potential for rationalising public expenditure arrangements between the federal and provincial governments to promote efficiency and effectiveness of public expenditure, says Finance Minister Shamshad Akhtar. She believes that policy and fiscal coordination between the federation and the provinces is pivotal for economic policy and sustainable growth.

The centre and provinces’ shared responsibilities are being redrawn for the smooth execution of schemes

The devolution move follows earlier failed federal efforts to persuade the provinces to share its burgeoning expenses. It resulted in a deadlock in evolving the next National Finance Commission (NFC) award. We are now suck with five-year 7th NFC award.

The federal government would reportedly reduce its development spending by Rs200bn to Rs250bn through rationalisation of ongoing schemes, including a cut in flows to projects at the initial stages or those made part of the development plan on political considerations.

Apart from changing the mode of funding of provincial projects under the Public Sector Development Programme (PSDP), the shared responsibilities/functions of the two sides are being redefined for the smooth execution of schemes.

Federal PSDP funding may include capital investment, projects located in deprived areas and original approved cost. It will be made mandatory for the federating units to share 50pc of the total cost of provincial projects included in PSDP. Any subsequent change in scope or any other reason would be the provinces’ responsibility.

The federating units would be required to take over the completed projects immediately. In the case of irrigation projects, they would simultaneously develop a command area to fully benefit from the project. The provinces would be responsible for bearing the cost of land acquisition, resettlement, provincial taxes, and the expenses of the project management unit.

Ms Akhtar says the provinces are the interface with the public and have a major role to play in improving social services, as well as ensuring food security and stabilising prices by minimising the gap between the wholesale and retail prices of essential commodities.

The federal finance department has also been directed to undertake technical work on the next National Finance Commission award in the light of the new population census that may include conditions to ensure transparency.

The centre’s co-financing of provincial projects for deprived areas may not appear appropriate when the 7th NFC award provides 10pc of federal divisible pool for the reduction of poverty/backwardness and another 2.7pc for inverse population density.

The next award can increase allocations on these counts while the NFC could monitor and ensure the funds are used for the allocated purpose. The cash-strapped federation should only take up mega projects whose beneficiaries are more than one or all the four provinces.

Supported by its legitimate share in NFC awards, every federating unit needs to balance its expenditures with revenues, stand on its own feet and be accountable to the voters. The resources for the reduction of regional imbalances in development and alleviating poverty should be managed through the uninterrupted evolution of five-year NFC awards.

Much of the problems in devolution can be attributed to federating units not being treated as autonomous entities but as provinces (administrative units). We need participatory democratic federalism.

Dwelling on fiscal federalism, former State Bank governor Dr Ishrat Husain recently called for ‘unpacking the fiscal equation’, adding that ’the ‘elephant in the room is provincial finance.’ About 40pc of expenditures are incurred by the provinces, he noted, but their contribution to the revenue is only 10pc — 1p of GDP — when they can provide agriculture income tax, which is 22pc of value-added.

Addressing a conference titled ’ Reforms for the Bright Future — Time to Decide’, Dr Husain observed that provinces are sitting on property tax in urban areas, real estate and services sector tax, so 60pc of the national economy is outside the tax net.

Agriculture income tax yields an insignificant amount of Rs3bn to Rs4bn annually against an agriculture GDP of Rs15 trillion. To quote an analyst, the tax on immovable urban property collected by all four provinces amounts to Rs30bn.

The provinces are expected to meet their commitment to cash surpluses and prioritise development projects to reduce pressure on federal finances

According to the latest data released by the Sindh Revenue Board, the sales tax collection on services for the first quarter of FY24 has jumped by 44pc to Rs52.11bn, up from Rs36.12bn in the same period last fiscal year.

Having performed remarkably better than the Federal Board of Revenue (FBR) in the collection of sales tax on services since it was devolved to the provinces more than a decade ago, the two relatively developed sub-federations, Sindh (in particular) and Punjab, have been encouraged to seek devolution of sales on goods — also a provincial subject.

But there is no outcome yet. To quote media reports, the FBR’s estimate of revenue loss in indirect taxes — especially sales tax — is almost Rs1.4tr due to low compliance.

Published in Dawn, The Business and Finance Weekly, October 9th, 2023