Fiscal federalism: Its relevance to the Philippines

When President Rody Duterte ran for the presidency last year, one of his campaign promises was the adoption of federalism in the Philippines. Federalism was envisioned to realize inclusive growth and to disperse the economic development from the center to all the regions of the Philippines.

However, would dividing the country into various federal states or regions allow them to become fiscally autonomous and self-sufficient, and in the process achieve the elusive “inclusive growth?” Looking at the income disparity between the various regions and the necessary fiscal mechanisms under federalism, I began to have my doubts.

The fiscal divide among our local governments is so great that Lamitan, a sixth-class city in Basilan, is able to collect only P35 for its Special Education Fund (SEF) per public school student while the City of Makati is able to generate P16,404 SEF per public school student. Given this wide disparity, what is the fair redistribution of income and how can we ensure that such redistribution is spent properly and efficiently under federalism? This question will expectedly plague the proponents of federalism as there can be no true political and cultural autonomy without fiscal autonomy.

Fiscal federalism
Although it is intimately linked with political concepts such as the federal form of government or decentralized states, fiscal federalism is more concerned about the roles of the different levels of government and the ways in which they fiscally relate to one another. Fiscal federalism assumes that a federal system of government can be efficient and effective in solving myriad of problems like the just distribution of income, efficient and effective allocation of resources, and economic stability.

The challenges resulting from the great disparity of income and expenses of the various sub-national government units such as provinces, cities and municipalities must be properly addressed for fiscal federalism to realize inclusive growth. Thus, fiscal federalism in the Philippines should focus on fiscal redistribution, coupled with fiscal discipline and accountability.

Revenue collections
Based on the Bureau of Local Government Finance statistics, there is a marked revenue concentration in the National Capital Region, which accounts for 43 percent of total local revenue collections by the local government units.

As to national taxes, the revenue regions of Manila, Caloocan, Quezon City and Makati collected P331 billion, or about 24 percent of the total P1.4 trillion collection of the BIR in 2015. This figure is even incomplete as the Large Taxpayers Services’ collection accounted for P881 billion of the total collection, equivalent to 63 percent of total collections. While not all large taxpayers are based in the NCR, we can assume that no less than half of the amount of national taxes is collected from taxpayers from the NCR.

If we look at the sourcing of funds per region, on average, only a third of total receipts of the regions are locally sourced, while the rest come from external sources. External sources include: (a) internal revenue allotment; (b) other shares from national tax collections; (c) inter-local transfer and; (d) extraordinary receipts/grants/donations/aids.

Fiscal redistribution
Fiscal redistribution will need to cover three aspects: (a) redistributing tax assignments that the local government can collect and administer; (b) redistributing taxes which are collected by the national governments to the local governments and; (c) inter-governmental transfers from one federal state to the other.

In a country where the tax collection-to-GDP ratio is barely 11 percent in 2015, there will always be a scramble for the existing resources. In 2015, local revenues only accounted for a third (34 percent) of the total funding for the regions. Thus, despite the granting of power to the local governments to create their own sources of funds, the local governments have not been able to fully fund their own requirements due to various factors such as a lack of sufficient tax base, low collection effort, dependence on share from the National Government and disparity in income among the constituent business entities.

Fiscal federalism will require the local governments to be more diligent in financing their requirements through efficient tax collection. In this regard, will the expected change in the tax collection efforts of the local governments result instead in more tax burdens on the citizens/taxpayers? Is there a way to make the tax burden to the taxpayers neutral under a federal system of government?

Even with efficient tax collections, very few regions in the Philippines are expected to be fiscally self-sufficient. For the rest, this would still mean constant support from the collections of the national government, as well as contributions from the fiscally richer regions.

In such a case, will the supporting regions or the national government retain oversight functions on how the money will be used and spent by the supported federal regions? We should also consider that for the immediate period, the richer regions will continue to have the need for huge infrastructure build-up that demands equally huge budgets. Identifying which project will take precedence will now be a challenge for fiscal federalism.

Fiscal discipline and accountability
In a federal form of government, the states will be autonomous and powers will be highly decentralized. Generally, the national government will retain only the reserved powers and tasks that are national in scope. Local concerns such as budgeting and resource allocation may be left to the discretion of the local officials, probably beyond the control of the national government or the region granting the revenue transfer. If fiscal redistribution is to be acceptable, a higher requirement on fiscal discipline and accountability must be set in place.

The above-cited challenges fueled my doubts. For fiscal federalism to succeed, the federal regions must also have a clear plan on how they will eventually be self-sufficient and able to finance their own needs. Moreover, both national and federal states should craft a developmental plan that will assist the poorer regions toward their sustainability and development. If these plans are still not in place, then federalism remains a campaign promise indeed.

Atty. Eleanor Roque is head of Tax Advisory & Compliance of P&A Grant Thornton. P&A Grant Thornton is one of the leading audit, tax, advisory and outsourcing firms in the Philippines, with 21 partners and more than 850 staff members. We’d like to hear from you! Tweet us: @PAGrantThornton, like us on Facebook: P&A Grant Thornton, and email your comments to lea.roque@ph.gt.com

As published in The Manila Times, dated on 24 May 2017