NATIONAL FINANCE COMMISSION:Fiscal Federalism Defined, Multiple Criteria

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Introduction To Public AdministrationMGT111

LESSON 29

NATIONAL FINANCE COMMISSION

At the end of lecture the students will be able to:

Explain fiscal federalism

Explain and understand National Finance Commission

Explain tax sharing between Federation and provinces and amongst provinces.

Fiscal Federalism Defined

Fiscal federalism is distribution of fiscal functions and the tax collection and distribution of

resources among constituent units of federation. It deals with which taxes to be collected by federation and

which to be collected by the provinces. The federation will be responsible for distributive and regulative

function. However, allocation function will have to be devolved to constituent unit. This brings to the

question of what taxes should be collected by federation and what taxes collected by constituent unit. The

basic framework of the federalism comprises the following:

Constitutional jurisdiction of unit of government to be respected, i.e. the legislative list

must be adhered to in consonance with national objectives and integrity. This means there

should be financial and administrative autonomy to the federating units, however certain

functions are to be retained by federation.

There should be a strong and continuous system of conflict resolution and consensus

building on national issues. Usually in a federal structure, there arise among provinces

differences in resource sharing. Therefore, there should be system by which these conflicts

are resolved.

Involve sub national government in national decision making process. The provincial

government should be involved in national decision making.

A lean federal structure. The organizational structure of federation should be leam i.e.,

flatter.

Federalism is a mechanism to achieve unity within a population whose characteristics have diversity

and variety in terms of culture, race, size, resources and population. It also refers to territorial organization

of political community in which there are two or more spheres and levels of government which combine

self-rule and shared-rule.

Shared-rule relationships amongst provinces can never be completely symmetrical, as size, wealth

and population differ from one constituent unit to another. Asymmetrical or plural federalism is an

appropriate way to give public expression to the demands of national minorities.

National Finance Commission (NFC)

According to the Constitution of Pakistan (1973) Article 160 (1) , NFC is constituted. The NFC is a

temporary body that decides criteria on the basis of which the taxes collected by the Federal Government

are distributed between Federation and Provinces and among provinces. Following are excerpts of the

constitution:

"within six months of the commencing day and thereafter at intervals not exceeding five

years, the President shall constitute a National Finance Commission consisting": the

Minister of Finance of the federal Government, the Minister of Finance of Provincial

Governments, and such other persons as my be appointed by the President after

consultation with the Governors of the Provinces".

Article 160 (2) states following taxes to be part of "divisible pool":

Taxes on income, including corporation tax, but not including taxes on income consisting

of remuneration paid out of the Federal Consolidated Fund;

ii)

Taxes on the sales and purchases of goods imported, exported, produced, manufactured or

consumed;

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Introduction To Public AdministrationMGT111

iii)

Export duties on cotton, and such other export duties as may be specified by the President;

iv)

Such duties of excise as may be specified by the President; and

Such other taxes as may be specified by the President.

The above taxes form the "Divisible Pool" i.e. "Pool" from which money is shared between

Federation and provinces.

The Fourth Schedule article 70 (4) of 1973 Constitution gives Federal Legislative list. Item 43 to 54

delineates all federal taxes. The interesting point is that more taxes have been included in the divisible pool.

The examples are of general sales tax and octroi tax which were provincial and district taxes respectively.

The two lists i.e. Federal Legislative list and Concurrent list give the function to be performed by

Federal Government and functions to be performed by Federal and provincial Government (Concurrent).

Criteria of Vertical Resource Distribution

From the Divisible Pool the resources are shared between Federation and provinces. This is called

Vertical resource distribution. It is distribution of resources from the federal government to the provincial

governments from the divisible pool. It is based on three factors: defence, debt servicing and social action

programme. The Federal Government using these criteria gives 37.55% to the provinces and retains the rest

with itself for running its expenditure.

Criteria of Horizontal Resource Distribution

Horizontal resource distribution is distribution of the 37.55% amongst the provinces. The criteria

used are `Population'. The use of these criteria is debateable and there is general lack of agreement on these

criteria

Multiple Criteria

Since the criteria used in horizontal distribution is population. Balochistan, NWFP and Sindh

disagree to the criteria. Because according to them Punjab has largest population. Therefore, it gets

maximum advantage from these criteria. Accordingly it is suggested that multiple criteria should be used.

The multiple criteria are:

Population

Distance of per capita income

Area

Index of infrastructure

Tax effort

Countries that have federal structure use multiple criteria.

NFC 1990

After every five years NFC is constituted by Federal government which announces "Award" i.e.

how resources should be shared. According to 1990 Award the Divisible Pool comprised of::

1. Divisible Pool:

Income and Corporate Tax

Sales Tax

Export Duty on Cotton

Excise Duty on Tobacco & Tobacco manufactures.

Excise Duty on Sugar

It was announced that Divisible pool be distributed between the Federation & the Provinces in the

ratio of 20:80. That is, 20% will be retained by Federation and 80% to be divided amongst provinces. The

Provincial Shares were:

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Punjab

57.88%

Sindh

23.28%

N.W.F.P

13.54%

Baluchistan

5.30%

According to NFC 1990 also Special Annual grant of Rs.700 million & Rs.1000 million to

Sindh & Punjab respectively. Subventions to N.W.F.P. & Baluchistan for three years at the rate

of Rs.200 & Rs.100 millions respectively.

Net Profit on generation of Hydro Power Stations located in the Provinces as per decision of

Council of Common Interests to be guaranteed by the Federal Government. This meant that

the profits from generation of hydro power should go to the province where power generation

house is located.

Net Proceeds of Gas Development Surcharge on production basis at well heads after

deduction of collection Charges of 2%.

The royalty & excise duty on oil & gas according to production.

Practice of giving deficit grants & picking surpluses discontinued.

Sales tax at retail level entrusted to the Provinces.

Conclusions

In this lecture we have examined concept of fiscal federalism and concept of federalism. The two

concepts relate to the sub-national governments (provinces) who may be of different in size, wealth, culture,

race etc. , but these constitute together to form federation. In this federal set up the sub-national

governments would differ in taxing powers; certain taxes would be the domain of federal government and

some could be with provincial government.

The Government of Pakistan, according to the Constitution constitutes NFC which announces its

Award on the basis of which resources are shared.

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