Anniversary special: Nepal’s ambiguity-filled federalism

There is a flawed understanding that fis­cal federalism is applicable only in a federal set up. It can be practiced even in a unitary system. In our context, we had exercised a good deal of fiscal federalism in the past. There are mainly four pillars of fiscal federalism.

The first is function analysis or expenditure assignment. This means allocation of specific responsibilities to federal, provincial and local level governments. Even in the past, we had decentralized some rights and duties through legal arrangements. Our constitution has provided 35 exclusive rights to federal govern­ment, 21 to provincial governments, and 22 to local governments.

There are concerns about different areas related to expenditure assignment. The pro­vision of fiscal transfers and grants is clearly mentioned in the new constitution, paving the way for its immediate implementation. The government has done a praiseworthy job on the management and transfers of civil servant.

The second pillar is revenue assignment. Even in the erstwhile unitary state, munici­palities and rural municipalities were granted some revenue-related rights. The new consti­tution has not provided much revenue-related rights to provinces.

The third pillar is related to grants, which falls under inter-governmental fiscal transfer. In terms of federalism, we are highly decen­tralized. But that applies only to works and duties. Most of the rights are given to pro­vincial and local governments. For instance, local governments have the right to decide on educational matters from primary to the higher secondary levels.

Similarly, provinces have the right to decide on tertiary institutions of education, or univer­sities. Moreover, all functions related to drink­ing water, agriculture and livestock, and 80 percent of the functions related to rural roads are with local governments. But institutions are the same. Expenditure assignment is con­stitutionally highly devolved but the revenue system is highly centralized. Only the roles and responsibilities are given to local levels, but no rights related to revenues.

There could be certain reasons behind centralizing the revenue system. More than 80 percent of the rights related to revenue is retained by the central government, whereas 60 percent work is devolved to the local governments. In principle, there should be a balance between allocation of responsibilities and revenues. Here, it is relevant to discuss the third pillar: inter-governmental transfer of funds.

Though we have centralized the revenue sys­tem, we have decentralized the distributions of revenue through laws. Revenue collection is decentralized as around 96 percent of it is collected from 15 districts. But we have 77 dis­tricts, and the government has a responsibility of looking after all districts and provinces. Again, 50 percent revenue is collected from customs points, which is the major source. Revenue control is centralized, and funds are transferred to the local levels as grants. This forms the third pillar.

Now, provinces and local governments get four types of grants—fiscal equalization, con­ditional, complementary, and special grants. Around 30 percent of the total budget is trans­ferred to local government units. In terms of revenue, we transfer 48 percent revenue to provincial and local governments.

Canada transfers highest amount of fiscal money to its local levels (49 percent), while the US transfers about 35 percent. Compared to those countries that embraced federalism two to three centuries ago, the condition of our fiscal transfer is better.

In our country, 15 districts collect 96 per­cent revenue. The Karnali and Sudur Paschim provinces collect less than one percent. Over 60 percent revenue is collected from Bagmati Province, most of which is sent to provinces as grant. We have a constitutional body called the National Resources and Fiscal Commission which recommends the distribution of reve­nues to all three tiers of government. There is also a constitutional provision that provinces have to transfer fiscal resources to local units.

The fourth pillar of fiscal federalism is the right to take loans. Local and provin­cial governments can take loans from the federal government based on the recom­mendation of the National Resources and Fiscal Commission.

Confusions related to expenditure assign­ment need to be cleared, and calls for our immediate attention. There is an overlap in the functions of the three tiers of government. For instance, all three tiers are involved in road construction. There should be clarity about who does what. The federal govern­ment should remain within constitutional boundaries, which is the biggest challenge of federalism. Local governments say they face obstacles from the provincial and federal gov­ernments. The provincial governments blame the federal government of interfering in its jurisdiction.

Another issue that needs our attention is that institutions have not gone to local levels with due responsibilities and rights. Although the constitution has given them rights related to education and agriculture, local govern­ments complain the federal government is building parallel institutions to interfere with these rights. This is like a parallel government, which should not be there. In terms of reve­nue, provincial and local governments have similar rights, creating confusion over distri­bution of resources.

We could have done much better. The fiscal commission has not been effective. Institutions related to federalism should work smarter. But despite everything, we have made good prog­ress on fiscal management. The bureaucracy has done well even in the absence of political leadership. We have allocated common and separate rights to the three tiers of govern­ment, but it has been the bureaucracy that has carried out most of the work.

Over 60 percent expenditure of sub-national organizations is managed through grants. But the transfer system is opaque. There have been complaints that more budget is allocated to electoral constituencies of political leaders. We also need to look after Karnali and Sudur Paschim provinces. For that purpose, we have to develop a scientific framework and ensure equal distribution of funds 

The author is a fiscal federalism expert

(Based on a discussion with Kamal Dev Bhattarai)