[ANALYSIS] Why Duterte’s federalism endangers government’s finances

 

More and more groups are opposing President Rodrigo Duterte’s push for federalism via charter change, otherwise known as Bayanihan Federalism.

Rather surprisingly, a lot of the pushback is coming from Duterte’s own cadre of economic managers.

Last week Finance Secretary Sonny Dominguez said he would “absolutely” vote against the draft constitution, which could end up as a “fiscal nightmare.” Earlier, Socioeconomic Planning Secretary Ernesto Pernia said the draft constitution could “wreak havoc” on the economy.

While this strong dissent – uncharacteristic of the economic managers – has drawn the ire of some Duterte supporters, it has also drawn support from many business groups.

In this article we examine the burgeoning fiscal and economic critique of Bayanihan Federalism.

Not only does it endanger the government’s finances, it is also completely needless. By simply revamping the Local Government Code (LGC), we can empower the regions without assuming all the risks that accompany charter change.

In short, the costs of adopting Bayanihan Federalism seem to outweigh the benefits.

1) It doesn’t ensure regional self-governance.

True federalism entails regional self-governance. The regional governments are supposed to enjoy substantial independence and autonomy vis-à-vis the central or federal government.

But in Bayanihan Federalism, regional self-governance is very weakly established, if at all. By and large, it still props up a top-down relationship between the central and regional governments.

To wit, Article II, Sec. 27 of the draft constitution provides that the “Federal Republic shall promote the autonomy of local government units.”

But merely promoting autonomy is a far cry from ensuring self-governance. This is why many experts say that Bayanihan Federalism is not truly federalism, but just another exercise in decentralization.

2) It fails to define the division of labor between federal and regional governments.

Bayanihan Federalism also fails to delineate the duties and responsibilities of the federal and regional governments.

To be sure, Art. XII, Section 2 lists down the exclusive responsibilities of the regional governments, which now include socioeconomic development planning, economic zones, the justice system, and indigenous people’s rights and welfare.

But at the same time, the draft constitution removes from LGUs some of their current responsibilities, such as natural resource management services, environmental services, and – most crucially – social welfare and health services. Why take away these essential local functions?

More importantly, the draft constitution is deafeningly silent about the powers to be shared between the federal and regional governments, as well as between the regional governments and the LGUs.

Failing to define such division of labor has 3 likely effects:

3) It’s unclear how the federal and regional governments will share their tax powers.

Each subnational government’s tax powers should be proportional to the scale and scope of its activities (“finance follows function”).

But if we don’t know how precisely the federal and regional governments will coexist, how can we possibly assign their respective tax powers?

For instance, in the draft constitution, the federal government levies taxes and fees except those collected by the regional governments such as the real property tax, estate tax, donor’s tax, franchise tax, road user’s tax, etc.

But at the same time, Art. XIII, Sec. 3 explicitly says that, “No double taxation shall be allowed.”

If so, shall the right of provinces and cities to levy real property taxes, amusement taxes, and franchise taxes – as currently stipulated by the LGC – be clipped?

The draft constitution says nothing about this crucial nuance.

4) It doesn’t remove the regional governments’ dependence on the federal government.

Bayanihan Federalism aims to “empower the regions.” Yet the draft constitution fails to untether the regional governments from the central government.

In fact, Art. XIII, Sec. 4 provides that the regional governments shall be given no less than half of all income taxes, excise taxes, the value-added tax, and customs duties collected by the federal government.

This is even larger than LGUs’ current 40% share under their Internal Revenue Allotment (IRA). If we want the regions to be more self-sustaining, why automatically give half of national taxes to them?

Granted, regional governments will not always have the money they need, especially for big-ticket projects like infrastructure. Sometimes, they might have to borrow from credit and capital markets.

But Bayanihan Federalism fails to mention anything about subnational borrowing.

5) It could worsen regional economic inequality.

Bayanihan Federalism also provides that half of all national revenues are to be “equally divided” among the regional governments.

This means that poorer regions (say, ARMM) will receive the same amount of resources as richer regions (say, Calabarzon), even if the former doubtlessly need more support than the latter.

Such equal sharing scheme could only worsen rather than abate existing regional inequalities.

Moreover, even if we grant the regional governments full autonomy to tax, poorer regions will still yield lower revenues than richer regions.

Unless we first fix existing regional economic disparities, Bayanihan Federalism will only leave more poor regions behind.

6) It could make poorer regions more dependent on the federal government.

Bayanihan Federalism could also make regional governments more reliant on the central government than ever before.

Aside from partaking of half of all national revenues, regional governments can also tap into a new Equalization Fund: a pot of money, no less than 3% of the General Appropriations Act, which will help poor regions “achieve financial viability and economic sustainability.”

To be sure, equalization funds are present in other countries as well – like Canada, Australia, and Germany – but for a wholly different purpose: to ensure that citizens across the regions could enjoy roughly the same provision of public services given the taxes they pay.

Many studies also find that such transfers could remove poor regional governments’ motivation to harness their own economic potential. Instead of promoting productivity and innovation in their own jurisdictions, poorer regions may grow complacent and rely on regular dole-outs from richer regions.

Figure 1 shows that richer regions today – like NCR, Calabarzon, and Central Luzon – already tend to have a higher share of their revenues coming from local sources.

Figure 1.

To avoid dependency, guidelines for redistribution should be made clear at the outset. But Bayanihan Federalism falls short of explaining the mechanics of its Equalization Fund.

As pointed out by the Department of Finance, it’s also unclear whether the Equalization Fund will emanate from the revenues of the federal or regional governments.

7) It could significantly increase the budget deficit.

Finally, Bayanihan Federalism could endanger the government’s coffers.

Just last month, the Supreme Court ruled that all LGUs are entitled to a “just share” of 40% of all national taxes (not just those collected by the BIR).

This decision perfectly illustrates why we don’t need to undergo charter change just to give more funds to the regions. However, it could easily double the government’s budget deficit (or revenue shortfall) from around 3% to 6% of GDP.

Similarly, Bayanihan Federalism – which allocates an even larger share to the regional governments – could imperil the government’s budget.

Secretary Dominguez warned the deficit might reach as high as 6.7%, or more than double the 3% sustainable target. To avoid this, he said the national government may have to cut spending by P560 billion, lay off 95% of its employees, hold back the Build, Build, Build program by 70%, or suffer a combination of these effects.

A ballooning deficit could also downgrade our international credit ratings and bump up interest rates to as much as 6% (interest rates will “go to hell,” said Dominguez).

All these will raise the cost of borrowing, stifle economic activity, and drag down the country’s growth.

Devil in the details

We haven’t even talked about the direct costs of federalism via charter change, which ranges anywhere from P60 billion to P130 billion per year.

But this is the least of our worries. For a document supposed to be the bedrock of our future system of government, Bayanihan Federalism is extremely ambiguous and sparse in details.

Not only is the draft constitution silent on many of the fiscal and economic provisions that are supposed to engine it, but its avowed goal of “empowering the regions” could also be achieved under the current constitution without resorting to charter change.

Of course, Congress might ignore Bayanihan Federalism altogether and come up with its own draft.

But if Bayanihan Federalism has any sway at all, is it any wonder why the economic managers are so deeply worried about Duterte’s push for federalism? – Rappler.com

The author is a PhD candidate at the UP School of Economics. His views are independent of the views of his affiliations. Thanks to Dr Chat Manasan of PIDS for sharing her slides in the June Senate hearing on charter change. For more on the topic, see her 2017 paper. Follow JC on Twitter: @jcpunongbayan.

JC Punongbayan

JC Punongbayan is a PhD candidate and teaching fellow at the UP School of Economics. His views are independent of the views of his affiliations.

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