Uniting Across Borders for Economic Evolution: Rearranging Federal-Provincial Partnerships for Economic Development Transformation
Reimagining Federal-Provincial Collaboration: The Key to Unlocking Pakistan's True Economic Potential
Pakistan finds itself at a pivotal juncture, grappling with sluggish growth, towering debt, and deepening inequality. Now, more than ever, there's an urgent need for a deeper, more effective partnership between the federal government and the provinces. True prosperity will never spring from centralization or control; it demands empowering provinces to shape their own development destiny.
To stabilize the economy, entice foreign investment, and unleash the country's hidden potential, a governance model is needed that puts provinces at the heart of national development. Fiscal federalism, enshrined in Pakistan's constitution, remains undermined by fractured planning, disjointed policymaking, and an inequitable allocation of resources.
The 18th Constitutional Amendment signified a significant step toward decentralization, transferring significant powers to the provinces. Yet, the envisioned collaborative framework between the federal and provincial tiers has struggled to materialize. This disconnect hampers coherent economic strategy and undermines provinces' capacity to leverage their unique assets.
Turning subnational growth engines into economic powerhouses calls for a revamped federal-provincial collaboration model-one built on trust, accountability, and a shared commitment to national goals. Here's a glimpse into this future using Khyber Pakhtunkhwa (KP) as a shining example, highlighting both the uncharted possibilities and the systemic institutional hurdles holding progress at bay.
1. Rebalancing the federal-provincial fiscal compact
The current fiscal agreement, born under the 7th National Finance Commission (NFC) Award in 2010, allocates 57.5% of federal revenues to the provinces. Fifteen years on, while this arrangement was meant to bolster provincial autonomy, its appeal wanes. Provinces have become heavily reliant on federal transfers, with only about 1% contributing to the national tax-to-GDP ratio, while the federal government remains responsible for over 90% of revenue collection and all debt servicing.
This misbalance has put immense strain on the federal budget, limiting its ability to invest in national priorities such as defense, infrastructure, and climate resilience. On the flip side, provinces now shoulder the bulk of expenditures in critical sectors like health, education, and local development, but lack the fiscal tools and revenue authority to sustainably finance them. This mismatch is further exacerbated by IMF-imposed provincial primary surplus targets, compelling provinces to trim development spending to back federal deficit reduction efforts while their own service delivery obligations expand.
A lack of strategic planning and data-sharing mechanisms between federal and provincial governments complicates matters, leading to duplication of spending in overlapping service delivery sectors like social protection, health, and education.
2. A fragmented fiscal federation
Although constitutional devolution took place under the 18th Amendment, economic policymaking continues to be centralized. Key domains, like excise duties on tobacco, electricity pricing, and mineral royalties, remain under federal control, limiting provinces' ability to capitalize on their unique comparative advantages.
Consider KP, which accounts for 78% of Pakistan's tobacco production yet cannot set meaningful fiscal policies due to federal control over excise taxation. While the federal government reaps over PKR 550 billion from tobacco excise, KP receives only 14.62% of the divisible pool, and its own provincial excise efforts are mired in legal challenges and regulatory overlaps.
Despite its potential in renewable energy, minerals, tourism, and agriculture, KP remains shackled by institutional and regulatory barriers:
- It cannot issue provincial bonds or tap international finance without federal approval.
- It lacks control over transmission infrastructure and energy regulation.
- It has no dedicated investment authority for its diaspora, despite contributing nearly one-third of Pakistan's remittances.
- Visa restrictions and negative media portrayals deter investors, despite an impressive tourism safety record.
3. The skewed electricity pricing dilemma
If provinces were empowered to govern their energy policies, KP could light up half of Pakistan. With a hydropower potential exceeding 30,000 MW-of which 5,626 MW is already being generated from major projects like Tarbela, Warsak, and Gomal Zam-KP has a distinct advantage in cheap, green energy. The province generates electricity at an average cost of PKR 7-8 per unit, yet it is compelled to purchase this electricity back from the national grid at astronomical rates of PKR 65-72 per unit due to centralized pricing, federal regulation by NEPRA, and prohibitive wheeling charges imposed by entities like NTDC and PESCO.
This structural inefficiency discourages both public and private investment in local energy solutions. KP's attempts to sell surplus electricity directly to industries through bilateral wheeling arrangements have repeatedly stalled due to wheeling charges as high as PKR 27 per unit, rendering such transactions commercially unviable. Over 20 hydropower projects are under development, including Pehur, Ranolia, and DaralKhwar, but without timely federal approvals and grid access, many risk becoming stranded assets.
The province has taken proactive steps to unlock its energy potential: hosting investor roadshows, drafting investment-friendly policies, and reaching out to the private sector. However, without federal alignment on transmission access, pricing, and regulatory autonomy, these efforts have limited impact.
The consequences are dire. Energy-poor KP, despite its riches, remains reliant on expensive fossil fuels, with industries bearing high electricity costs, household bills continuing to rise, and potential job creation and economic growth throttled. Huge parts of the energy burden rest on households, which consume 56% of electricity in KP, while all segments bear the brunt of inflated tariffs driven by inefficiencies in the national system.
Further delay in Net Hydel Profit (NHP) payments owed to KP by the federal government exacerbates the situation. These funds could have been reinvested to expand KP's renewable energy base and reduce dependency on costly imports.
(To be continued)
[1] World Bank (2021), Fiscal Decentralization in Pakistan: Reviewing Progress and Challenges, www.worldbank.org/en/publication/fiscal-decentralization-in-pakistan-reviewing-progress-and-challenges.
[2] Islamabad Policy Research Institute (2018), Improving Fiscal Federalism: Adequacy, Efficiency, and Effectiveness of the NFC Award, www.ipri.org.pk/ipri-reports/improving-fiscal-federalism-adequacy-efficiency-and-effectiveness-of-the-nfc-award.
[3] Development Policy Center, Khyber Pakhtunkhwa Development Policy Review 2023, www.dpc.edu.pk/wp-content/uploads/2023/03/CPP-KP_DPTR-2023.pdf.
[4] The Energy News Network (2023), Protecting Small Hydro Employment in Khyber Pakhtunkhwa, www.ene.news/protecting-small-hydro-employment-in-khyber-pakhtunkhwa.
[5] The Express Tribune (2022), Boosting Regional Trade Facilitation through Pakistan-Afghanistan Transit Trade Arrangement, tribune.com.pk/story/2352305/boosting-regional-trade-facilitation-through-pakistan-afghanistan-transit-trade-arrangement.
4. Bolstering fiscal federalism: the NFC Award review
Scholars and policymakers have debated the need to review the 7th National Finance Commission (NFC) Award, citing its shortcomings and their implications on Pakistan's development. The World Bank's 2021 report and the Islamabad Policy Research Institute's 2018 paper have both underscored inadequacies in the distribution of resources between the federal and provincial governments, as well as the need for better spending accountability. Policymakers must weigh this input to re-examine the NFC Award and pave the way for improved federal-provincial collaboration.
5. Pursuing integrated policy-and-legislation reforms
The traditional approach to fiscal federalism has left Pakistan's provinces underserved, with numerous policy and legislative gaps. To bridge these divides, a comprehensive, coherent framework is required that ensures harmonious development plans across the country. Involving stakeholders from the general-news media, academia, think-tanks, and business sectors in discussions on reshaping Pakistan's policy-and-legislation landscape will foster a robust, inclusive approach to institution-building.
6. Unlocking access to capital and credit
Centralized control over the economy stifles capital formation and restricts the growth potential of Pakistan's provinces. Provinces must be granted more autonomy to issue bonds, leverage funds from international finance, and devise credit policies tailored to their needs. With more control over their financial destinies, provinces will be better equipped to attract foreign investment and promote local development.
7. Encouraging interprovincial cooperation and trade
Fostering harmonious relationships between Pakistan's provinces is essential for achieving lasting economic growth. By harnessing the diverse strengths of each region, provinces can strategically complement each other's development, mitigating the impact of disruptions and enhancing overall economic stability. Interprovincial trade alliances, when supplemented with liberalized trade policies and streamlined borders, have the potential to propel both local and national economic expansion.
8. Balancing wealth distribution and reducing inequality
Thriving provinces will not sustain growth without addressing imbalances in the distribution of wealth and income. Redistributive policies can better equip the most vulnerable segments of society with opportunities for entrepreneurship, education, and social mobility. Poverty eradication programs, Targeted Subsidy Programs, and Focused Development Initiatives can help bridge the economic divide among Pakistan's provinces, fostering a fairer, more equitable country for all.
9. Navigating the rise of DeFi and digital assets
Pakistan's move towards a cashless economy and the expanding landscape of decentralized finance (DeFi) hold potential for accelerating economic growth while ensuring financial inclusion. Provinces should invest in digital infrastructure, education, and regulations to promote the use of blockchain technology, digital assets, and smart contracts. By embracing this innovative, forward-thinking approach, Pakistan can leverage the potential rewards of the digital economy, while mitigating associated risks to ensure a secure financial landscape for its citizens.
