Mon, 17 May 2021 Today's Paper

Envisioning beyond economic growth and per capita income

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Fiscal devolution

Fiscal decentralisation has gained momentum in capitalist and communist/socialist countries (in China, for instance) and in unitary and federal states alike since the last quarter of the twentieth century. 

Country experiences have shown that fiscal decentralisation do enhance public goods and services delivery and poverty reduction. However, designing of fiscal decentralisation should be country-specific. 

Our case for fiscal devolution is not based on the dichotomy of unitary versus federal constitutional cum political model, but based on the evolving business model globally towards subcontracting and outsourcing the production lines and the supply chains. However, not everyone agrees that administrative, political, and fiscal decentralisation is the panacea for economic efficiency.    

There is a lot of concern about the lop-sided economic growth and wealth concentration in Sri Lanka whereby the Western Province (Colombo, Gampaha, and Kalutara districts) accounted for 43 percent of the national Gross Domestic Product in 2012, which was greater in previous years. There could be several causes for this concentration of economic output and wealth in just one province out of the total nine provinces in the country; one obvious cause being 28 percent of the national population resides in the Western Province (WP). 

Besides, tax incidence or the source/s of tax revenue is one of the principal factors affecting income inequality among the population and the regional dispersion of economic growth and wealth. When a tax system overwhelmingly depends on consumption taxes, income will be concentrated in the hands of the wealthy individuals (who largely reside in the WP), institutions, and regions of the country. After 1977, indirect or consumption tax as a proportion of the total tax revenue has increased at the same time direct or income tax has decreased. This is one of the primary causes of the skewed production and wealth among the people and places in Sri Lanka. Moreover, the consumption tax revenue and savings of people from the provinces are transferred to the centre (part of Western Province) which spurs regional inequality. 

Therefore, giving freedom to the provinces to retain their respective consumption tax revenue and savings of the respective populations and increasing the proportion of the direct or income taxes in the total tax revenue would significantly disperse production, income, and wealth to the regions away from the Western Province. Therefore, fiscal devolution is proposed for inclusive growth among the different provinces.    
         
By providing fiscal autonomy to the provinces, the national government could promote competition among provinces to attract businesses and investments (both domestic and foreign). The fiscal space envisaged to the provinces would create an environment for productive competition among provinces. 

The national government should do away with the nanny state it currently operates, vis-à-vis the provinces, by transferring annual grants to the provinces based on certain objective and subjective criteria. Present transfers from the centre to the provinces are barely adequate to pay for salaries, pensions, and recurrent expenditures of the provinces. On the contrary, provinces should be encouraged to earn and spend their own money.    

The total revenue of the national government is insufficient to meet even the recurrent expenditures of the government for the past twenty-five years (since 1989). Therefore, part of the recurrent expenditure and entire capital expenditure of the government is financed through domestic and external borrowings. 
Furthermore, bulk of the annual government revenue goes for repayment of public debt (both domestic and external). Therefore, it is high time the national government thinks out of the box to fix its fiscal deficit by transforming the nature, content and extent of the fiscal architecture of the national government vis-à-vis the provincial governments.



Deception of Per Capita Income
The Per Capita Income (PCI) is derived by dividing the Gross National Product/Income (GNP/I) of a country by the total population of a country during a given period of time. It is a commonly used yardstick for practical and analytical purposes. However, it is important to understand that the per capita income of a country does not necessarily indicate the level of development of that country. 

For example, according to the World Development Indicators 2013 of the World Bank, while the Per Capita Income of Angola was $3,970, PCI of India was $1,450, PCI of Timor-Leste was $3,340, and Sri Lanka’s Per Capita Income was $2,580 (because according to WDI Sri Lanka’s population in 2011 was 21 million which is an overestimation) in the calendar year 2011. The foregoing figures do not imply that Angola and Timor-Leste are economically better-off than India or Sri Lanka; similarly it does not imply that Sri Lanka is economically better-off than India.   

According to the World Development Indicators 2013 (WDI 2013) of the World Bank, countries are classified as follows using the World Bank Atlas method. All the data in the WDI 2013 pertains to the calendar year 2011. These benchmark figures are revised upwardly every year. According to WDI 2013: 
 
  •     Low-income economy - $1,025 or less GNI (Gross National Income) per capita in 2011
  •     Lower middle-income economy - $1,026 - $4,035 GNI per capita in 2011
  •     Upper middle-income economy - $4,036 - $12,475 GNI per capita in 2011
  •     High-income economy - $12,476 or more GNI per capita income in 2011

Latest available Per Capita Income data of 2011 and 2012 in Sri Lanka as reported by the Central Bank of Sri Lanka (CBSL) are taken for critical appraisal as follows. 

The Per Capita Income determined by the above method is misleading, because it is worked out at current market prices. For example, the Gross National Product (GNP) at current prices in 2011 (Rs.6,471,968 million), which is called the nominal GNP, is divided by the total population in 2011 (20.2 million). This gives an annual Per Capita Income of Rs.320,394 in 2011 ($2,896 @ annual average exchange rate of $1=Rs.110.6 in 2011). In the same way, the provisional Gross National Product (GNP) at current prices (Rs.7,433,954 million) in 2012, which is called the nominal GNP, is divided by the total population in 2012 (20.3 million according to the Census undertaken in March 2012). This gives an annual Per Capita Income of Rs.366,205 in 2012 ($2,870 @ annual average exchange rate of $1=Rs.127.6 in 2012).

 On the other hand, if we use the GNP at constant (2002) prices, which is called the real GNP (Rs.2,832,189 million in 2011), the annual Per Capita Income in 2011 was Rs.140,207 ($1,268). Similarly, if we use the provisional GNP at constant (2002) prices, which is called the real GNP (Rs.2,987,628 million in 2012), the annual Per Capita Income in 2012 was Rs.147,174 ($1,153). This is a relatively better realistic measure of Per Capita Income because it takes into account the rise in prices (consumer price index), i.e. inflation (as measured by the GDP deflator).

 Moreover, according to the Preliminary Report of the latest Household Income and Expenditure Survey (HIES) undertaken by the Department of Census and Statistics (DCS) between July 2012 and June 2013, Annual Average Per Capita Income was Rs.143,184 ($1,122 @ annual average exchange rate of $1=Rs.127.6 in 2012).

 The HIES 2012/13 covered all the districts of the country after twenty-seven years; last time HIES covered the entire districts of the country was in 1985/86. There are, of course, district-wise variations in the above figures that are not available to date. The HIES 2012/13 was conducted among a representative sample of 25,000 housing units (households) in all the 25 districts in the country during a twelve-month period between July 2012 and June 2013 to account for seasonal variations in income and expenditure of households.

Department of Census and Statistics, Household Income and Expenditure Survey (HIES) 2012/13, Preliminary Report, June 2013, page 3.

http://www.statistics.gov.lk/HIES/HIES201213BuletinEng.pdf   

Notes: The total population in 2011 and 2012 was 20.2 and 20.3 million respectively. The annual average exchange rate of US dollars in 2010, 2011, and 2012 were Rs.113.1, 110.6, 127.6 respectively.

There are disadvantages and advantages of HIES over the National Income Accounts. Since HIES is a representative sample survey it does not cover each and every household in the country, which is a disadvantage. The advantage of HIES is that it covers the informal economy as well, in addition to the formal economy. In the case of the National Income Accounts, it covers only the formal economy and the informal economy is not accounted for. Therefore, the National Income Accounts could be an underestimation of the actual total income of the country.    

Furthermore, the Per Capita Income worked-out from the National Income Accounts (NIAs) is deceptive because it includes the incomes of households, government, and industries (institutions) in a country and the incomes of the government and industries (institutions) do not necessarily trickle-down to the household incomes. In contrast, the HIES accounts solely the incomes (and expenditures) of the households, which is the real disposable income of households and by extension individuals. Hence, a significant part of the Per Capita Income derived from the National Income Accounts is ghost income as far as the households and individuals are concerned; which is reflected in the significant discrepancy between the Per Capita Income derived from the two sources, viz. the HIES and NIAs. (See following table)

Therefore, we would argue that the Per Capita Income derived from the HIES is what relatively better reflects the real well-being (in terms of monetary income) of the people of a country. 





Conclusion
The ‘new economic geography’ theory that emerged in the early-1990s coinciding with the new growth theories has highlighted the catalytic role regions could play in economic growth of countries and the world at large. A recent World Bank publication highlighted the geographic concentration of economic growth in Sri Lanka. 

More recent literature argue that physical distance between ‘leading’ and ‘lagging’ regions not only be bridged by infrastructure development (faster highways and road, rail, ocean and air transport services) but by Information and Communication Technologies (ICTs) as well. That is, virtual infrastructure development (modern ICTs) could shorten the physical distance between geographical regions and production lines of goods and services in a time-efficient and cost-efficient way than physical infrastructure development could.  

Another body of literature marshals evidence to argue that not only geography but institutions are also equally important (if not more) to spur economic growth in the regions within countries. Thus, not only spatial economics but institutional economics is also necessary to understand the dichotomy between the ‘leading’ and ‘lagging’ regions within nation states. Whilst physical infrastructure (roads, transportation services, etc) and information and communication infrastructure (telecommunications, internet, etc) connect places, it is the institutions such as rule of law, property rights for land, political, administrative, and fiscal decentralisation, financial integration, education and skills development, and development of inter-regional markets that connect peoples across the national boundary. Thus, the connectivity in terms of physical distance and connectivity in terms of human distance are sine qua non for spreading economic growth and competitiveness to the regions and integrating the national economy.

There is empirical evidence to show that democratisation and fiscal decentralisation dilutes primary cities and promotes secondary cities. Davis and Henderson (2003), using panel data from 1960 to 1995 with instrumental variable estimation, find that moving from most centralised to least centralised government reduces primacy by 5 percent. Similarly, moving from least democratic to most democratic form of government reduces primacy by 8 percent. 
A recent empirical study based on cross-country data from 1961 to 2004 by Hanne Fjelde and Indra De Soysa finds that government spending on political goods (such as development, education, health, etc) and credible/impartial/trustworthy state institutions (such as contract enforcement, security of property rights, etc, as noted in section 3 and 3.1 above) are better determinants of civil peace than spending on defence.  
 
 We hope that the community of policy makers in Sri Lanka, both within and outside the government, considers the intra-national, national, and cross-national empirical evidence presented herein with utmost importance and urgency to usher in a policy trajectory beyond economic growth and per capita income towards durable civil peace in lieu of the current military peace. 

(Muttukrishna Sarvananthan (Ph.D. Wales, M.Sc. Bristol, M.Sc. Salford, B.A. Hons. Delhi) hails from Point Pedro and a Development Economist by profession and the Principal Researcher of the Point Pedro Institute of Development, Point Pedro, Northern Province, Sri Lanka. http://pointpedro.org He is contactable on sarvi@pointpedro.org) 
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