Jun 102008

By Dr Aqdas Ali Kazmi

THE annual budget of a country reflects the built-in features of its fiscal system which evolves through historical processes, precedents and practices. An efficient and equitable fiscal system is one which helps achieve the basic economic objectives defined by a country for a given period of time.

These objectives generally include ensuring a sustained growth of real GDP, maintaining a high level of employment, containing inflationary pressures, improving income and assets distribution, reducing mass poverty and accumulating adequate foreign exchange reserves.

When one looks critically at the fiscal system of Pakistan, one finds that its basic norms and practices both on the side of resource mobilisation as well as public spending have remained by and large unchanged for the last half century. On the other hand, the social demands and economic needs of the country have changed in a fundamental way over the last five decades, with the result that the fiscal system has been rendered out of sync with changing demands.

The disconnect between budgetary practices and national needs is the outcome of numerous social, political and economic factors. Focusing only on the economic side, it is realised that one clear cause of this disconnect is related to the continuous reliance on ‘fiscal incrementalism’ as the central approach of budget-making in Pakistan. Under this approach, at the time of budget formulation, the different heads of revenue (taxes and non-taxes) and the current expenditure of different state agencies are increased by a certain margin ranging from 10 to 15 percentage points while accommodating the impact of newly introduced policy changes. Since the policy changes are generally incremental in nature, the overall structure of the fiscal system continues to retain its traditional-cum-historical form.

It is interesting to observe that most fiscal variables for the period prior to the year 1999-2000 show remarkable mapping around their historical averages. For example, total revenues on a consolidated basis (federal plus provincial) have moved around the average of 17 per cent of GDP with consolidated taxes at around 13.5 per cent and non-tax revenues of 3.5 per cent of GDP. The current expenditure has fluctuated around the average of 19 per cent and development expenditure at 4.5 per cent of GDP, giving an average of 23.5 per cent for the total expenditure. The consolidated budget deficit has varied around the average of 6.5 per cent of GDP.

The base of national income accounts was changed by the Federal Bureau of Statistics from 1980-81 to 1999-2000 and the nominal GDP increased significantly from the year 1999-2000 onwards. As a result of higher GDP, the magnitudes of most fiscal variables for the years 1999-2000 onwards when measured as a ratio of GDP have decreased by a margin of two to three per cent. Therefore, all variables of the fiscal system in the post-1999-2000 period show substantive reduction.

For example, the total revenues of Pakistan in the post 1999-2000 period have fluctuated around an average of 14 per cent, the tax revenues have slid downwards to an average of 10.5 per cent, total expenditure has come down to about 19 per cent of GDP, current expenditure has an average of 15.5 per cent and development expenditure has fluctuated around an average of 3.5 per cent of GDP, even through it shows a rising trend in the last four years (2003-04 to 2006-07). In fact, the entire budgetary system now looks further squeezed and retrenched as a consequence of the rebasing of national income accounts.

Even in the absence of rebasing the national income accounts, the budgetary system of Pakistan does not show any major vacillations and historically it is caught up in an extremely low level of stabilisation. The economy of Pakistan suffers from fiscal fatigue which means that the components of the budgetary system fail to show movement to match the growing demands of national economy or to meet the external challenges of globalisation and internal challenges of poverty, unemployment and high inflation.

Development expenditure during the last 25 years has continued to drift downwards. In 1980-81, development expenditure was as high as 9.3 per cent of GDP which fell to 6.4 per cent in 1990-91 and 3.3 per cent in 1998-99 and 2.1 per cent in 2000-01. The persistent decline in development spending apparently reflects the impact of what can be termed as the philosophy or approach of ‘fiscal monolithicism’ under which all adjustments are made in the development expenditure to meet the specified targets of budgetary deficits.

Given the inelasticity of tax revenues and the major heads of current expenditure, such as debt-servicing and defence which together account for more than 70 per cent of total current expenditure, the final burden of adjustment has to be borne by development spending.

Over time, the budgetary system of Pakistan has come under increasing pressures. The system consequently has developed the ‘syndrome of asymmetries’ under which the seven key fiscal variables which should be quite high have assumed a low magnitude and seven variables which should be low have actually grown disproportionately. The seven lows are tax-GDP ratio, non-tax-GDP ratio, revenue surplus, share of development expenditure in the total expenditure, spending on social and economic services in the current expenditure, spending on education, health, agriculture and industry in the Public Sector Development Programme (PSDP), and the overall size of the budget.

The seven highs of the national budgetary system which have emerged over time can be identified as the share of indirect taxes in total taxes, share of withholding taxes in direct taxes, dependence on surcharges for revenue generation, share of federal taxes in the total tax revenue i.e. high ‘vertical imbalance’ in resource (tax) mobilisation, share of public debt in financing budgetary deficit, level of current spending on debt-servicing and defence, and the mismatch between sectoral GDPs and tax contributions. Fiscal transformation is an urgent but a long-term task. It must focus on reversing the set of seven critical variables of the fiscal system which are very low in value and reversing the seven sensitive variables which have assumed high magnitudes in a historical perspective.

The writer is chief (WTO), ministry of industries and production. The views expressed here are personal to the writer, and not of the Government of Pakistan.

Source: Daily Dawn, 10/6/2008

 Posted by at 2:09 pm

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