Division of Powers, Regions and Revenues

DIVISION OF POWERS, REGIONS AND REVENUES

Dr. Eduardo Araral UP Law Center Project on Constitutional Review and Associate Professor, Lee Kuan Yew School of Public Policy, National University of Singapore [email protected]

Presented to the Constitutional Commission to Review the 1987 Philippine Constitution, March 19, 2018, Manila, Philippines Outline of presentation

 Division of powers  What problems are we trying to solve? What solutions do we propose?  What have we learned from 25 years of LGC and ARMM?  What can we learn from international experience?  10 Principles for dividing powers  Proposed division of powers  Division of expenditure and revenues  Principles  Proposal for division of expenditures and revenues  Division of regions  Criteria  Comparison of various models  Issues to consider  Conclusion The Problem: Centralized / inefficient governance

 Bicol International Airport 12 years on, not yet finished

 500+ signatures to set up solar power project in Negros

 White elephant wholesale market in Cordillera (planned in MM)

 Metro Cebu waiting for more than 5 years to have MCA

 Years of delays in agribusiness SEZ in Mindanao

 Years of delays in rehabilitating Bicol railways

 20 years “talk only” on Mindanao railways

 DSWD’s CCT and Kalahi CIDS Projects are highly centralized

 Regional Development Councils are not effective

 Tourism arrivals only 5% of ASEAN (poor infrastructure)

 HUGE ECONOMIC LOSSES (JOBS, TAXES, TIME) IN THE LAST 30 YEARS! What we are trying to achieve

 To hasten and sustain equitable regional economic development  To create more jobs, improve service delivery and ultimately reduce poverty in the regions by  having more efficient & responsive governance to replace highly centralized imperial manila  creating regional governments with own source revenues  Expanding powers of local governments and increasing their share in internal revenue from 40% to 60% and making it current  by fostering competition and cooperation among regions and local governments Lessons from 25 years of Local Government Code & ARMM

 Tendency to centralize powers and budgets;  No serious effort to downsize national agencies and abolish their regional offices even for devolved functions  National government dominance in overall spending (83:17) and overall revenues (92:8) (Miral, 2017)  LGUs remain highly dependent on IRA (Provinces 81%; Cities 47%; municipalities 82%) (Miral, 2017)  Most LGUs are weak in tax collection (Manansan, 2008)  Fiscal commons patronage fragmentation, duplication, corruption  IRA ineffective & outdated (fixed 40%, based on 3 years prior, arbitrary allocation, not equitable, is not updated based on needs)  Imbalance in revenue powers and expenditure responsibilities  Duplication of responsibilities (ARMM and LGUs) (Miral, 2015)  Regional Development Councils are not effective drivers of regional development (no powers) Lessons from international experience

Per Capita Incomes35,000 Highly decentralized and open economies

30,000 grew faster and have higher per capita incomes as a result of competition among

25,000 VIETNAM PHILIPPINE S 20,000 MALAYSIA

CHINA 15,000 INDONESIA

10,000 Growing but 5,000 lagging

0 1 11 21 31 41 51 61 1951 2016 Source: Araral (2018); data from Conference Board Total Economy; Lessons from international experience

 Need for fiscal discipline and hard budget constraints for regional governments (Mexico, South America, China)  Need for equalization fund to address imbalances between national and regional government and among regions (India)  Need for Finance Commission to regularly (India) to regularly update (every 5 years) fiscal arrangement  Need for formal / informal inter-governmental relations (Australia, Canada)  Picket fences federalism (USA) – division of powers negotiated on a case by case, adversarial process  Need to clearly define exclusive, shared and residual powers (Canada, India)  Need to have capable regional govts and strong watchdogs (China)  Need to have better economic coordination among regions (Vietnam)  Dual reporting system for regional civil servants (regional civil servants directly report to regional governors and to coordinate with their national counterparts) (India); civil service is national is character  Need for mechanisms to deal with separatism (Catalan, Spain; Scotland)  One country, two systems (China, Indonesia, Malaysia) Lessons on intergovernmental relations Recommendation: This should be spelled out in the constitution including the powers of the IGR, including powers to resolve conflicts Model Executive Federal Presidential federal Integrated federal Form of Federal Parliamentary Presidential Federal Federal Parliamentary goverment Examples Canada USA, Mexico, Argentina, Germany, Brazil, S. Africa Mechanisms of First Ministers’ No formal mechanisms b/c shared powers are clearly IGR Conference (PM and states are sovereign defined; national legislation RM); Regional Premiers’ requires approval of both federal Conferences, and the inter‐provincial Council of and sub‐federal legislatures; Federation regular consultation fora for coordinating legislation and policy attended by PM (like LEDAC) Formalization Formal Ad hoc Formal Strengths Allows autonomy for Each state fights for its Collective responsibility for provinces own interests policy and implementation; Weaknesses Lack of clarity in the Fragmented; picket fence Works better under federal division of powers federalism; ad hoc; each parliamentary set up policy issue has its own between jurisdictions has IGR b/c states are led to politicized IGR sovereign; coordination across policy fields difficult 10 Principles for Dividing Powers (Recommendation: to be spelled out in the Constitution)

1. Adequate & clear – regions & local governments should have adequate powers (clearly defined as exclusive / shared/ residual) and budgets to fulfill their mandate to hasten equitable regional / local economic development 2. Fiscal equivalence – finance follows functions 3. Fiscal discipline – hard budget constraints and need to address the tragedy of the fiscal commons 4. Externality – if the effects are national in scope, then national government is responsible; if regional then regional; if local, local 5. Asymmetric / evolving – assignment of powers based on competencies 6. Subsidiarity – national govt. should not do what regions/LGUs can do 7. Inter-governmental relations (IGR) – formal and informal mechanisms of cooperation & conflict resolution 8. Bayanihan federalism– self rule with shared rule; IGR first before courts 9. Polycentric – allow for multiple political, administrative and economic arrangements (essence of federalism); allows for one country, two systems 10. Least transition cost / least disruption to our growth momentum PROPOSED DIVISION OF POWERS Recommendation: Should be spelled out in constitution but details in a separate legislation) Responsibility for Category of Service Policy, Standards & Oversight Provision & Administration Defense and police Federal Federal Foreign Affairs Federal Federal International Trade Federal Federal Monetary Policy, Currency & Banking Federal Federal Fiscal Policy (Tax & expenditure) Federal, Regional Federal, Regional, Province, City, Municipality Immigration Federal Federal Airlines, railways, telecom, internet, Federal Federal, Regional post Inter-regional commerce Federal Federal Regulation / Licensing Federal Region, Province, City, Municipality Labor / Employment Federal, Regional Federal, Regional Environment and natural resources Federal, regional Federal, regional Civil Service Federal, regional Federal, Regional Agriculture & Fisheries Federal, Regional Regional, Provincial, City, Municipal Education (Basic, Higher, Vocational) Federal, Regional Federal, Regional Health Federal, Regional Regional, Provincial, City, Municipal Social Welfare Federal, Regional Federal, Regional, Provincial, City, Municipal Water, Sewage & Garbage Federal, Regional City, Municipal Fire Protection Federal, Regional City, Municipal Highways Federal Federal, Regional, Provincial, City, Municipal Energy (exploration, devt, generation, Federal, Regional Federal, Regional transmission) DIVISION OF REGIONS COMPARISON OF DIFFERENT PROPOSALS TO DIVIDE REGIONS MODELS PDP LABAN /Pimentel 5 REGIONS ULAP CDPI 17 (North & Central Luzon, Features Metro Manila, Bicol, CAR; Eastern, Central, Western Visayas, Mimaropa, 5 (Luzon, Metro Manila, Evolutionary (provinces/ Southern Mindanao, Visayas, Mindanao, Bangsa 81 (Provinces as Regions) cities decide to form Northern/Western Moro) region) Mindanao, Muslim Mindanao (main/island) + retain current LGUs

Already familiar set up; Economies of scale; lower Closest to the Federalism will evolve established administrative administrative cost in the long population; already organically overtime units; minimal disruption; run established; lower Strenghts accounts for regional administrative cost in identities; not readily the long run captured by existing political dynasties

Assignment of regional Still too large administratively; Provinces are too small / Selection bias (strong Weaknesses capital can be controversial Instead of imperial manila, we fragmented to be effective regions have no incentives (better let regions decide); could end up with imperial drivers of regional to join weaker regions and Cebu, Davao; high cost of economic development; share their financial Unclear about other transition (regional govt. no track record of resources unless they have indigenous groups in the center);does not differentiate building, operation / something to offer;) country mainland and island Muslim maintenance of large formation of strong regional Mindanao nor regional ethnic regional infra; can be govt. may not happen groups easily captured by political dynasties Why regions (not provinces) as political / administrative units?

At present, we have too fragmented first tier subnational governments (149); we need economies of scale

Recommendation: Need to change Article X of the 1987 Constitution to recognize regional governments as political (not just administrative) units with powers on taxation, regulation, licensing and legislation. Division of budgets (based on division of powers)

 Methodology  Modeling and simulation using actual 2015 GAA  Official data (DoF, DBM, CPBO, PIDs, NEDA)  Compare before and after  How much would be the share of NG, RG and LGU in expenditure and revenue?

 What will be the revenue generation powers of the RG / LGUs?  What are the governing principles in the allocation of these powers?

LGUs remain highly dependent on IRA (Provinces for 81% of needs; Cities 47%; municipalities 82%) Recommendation increase IRA of LGUs at least from 40% to 60% of internal revenues based on current fiscal year; finance follows functions

Recommendation: The budgets / personnel of regional line agencies will be transferred under control of regional govt. under a “dual reporting system” ( no need for another layer of government Current total expenditure sharing between national & local govt.

83% NG vs. 17% LGUS NEW expenditure sharing with national, regional and local govt. (based on regional govt. model)

RG + LG = 60% vs. current 17% or 43% increase Implications for division of revenue powers

 What are the principles governing the allocation of revenue powers between national and regional/local govt?

 What does this mean in practice?

 Are these adequate to need their new responsibilities ? Principles of Tax Assignment

 Efficiency of the internal market – domestic market will function more efficiently if labor, capital, goods and services are free to move from one region to another without distortions imposed by policy, for example from uncoordinated taxes by regions.  National equity - national government should have responsibility to ensure that all citizens are treated fairly because regional/local governments would treat people differently  Administrative cost - Decentralized tax collection will increase the likelihood of tax evasion and avoidance especially where the tax base is mobile (capital, labor), or where the tax base straddles more than one jurisdiction (tradable goods)  Fiscal need - to ensure accountability, revenue means should be matched as closely as possible to revenue needs  Economic growth and macro-economic stability Recommendation: Spell out theses principles in the Constitution to avoid future issues on taxation TAX ASSIGNMENT NATIONAL (YELLOW) AND REGIONAL GOVT (GREEN), SHARED (WHITE) based on 40:60 sharing for NG:RG

Recommendation: Constitution should define the revenue powers of the regional governments and not leave it to NG; can consider higher share including Customs revenues HORIZONTAL IMBALANCE (AMONG REGIONS) REGIONAL HORIZONTAL IMBALANCE

Recommendation: The Constitution should indicate that it is the policy of the state to address the problem of vertical and horizontal fiscal imbalance by creating an equalization fund and a National Finance Commission to recommend the use of the fund and allocate revenues Vertical Fiscal Balance (National vs. Regional / Local Govt)

Recommendations: The Constitution should state the minimum revenue sharing formula of 40% for NG and 60% for RG and Local government, net of debt servicing or state that RG /LG should get lions share. NG should also provide for additional conditional block grants to the regions to pursue national priorities such as poverty alleviation, food security, disaster relief, strategic infrastructure, etc. Summary BEFORE REFORM AFTER REFORM NET EFFECTS Expenditure share 87% NG. 17% LG 40%NG, 60%RG/LG 43% Inc. for RG/LG Own source revenue 92% NG; 8% LG 59% NG; 41% RG/LG 33% inc for RG/LG 40% of IR to LG (3 60% of IR for LG 20% inc for LG Transfers years preceding) (current year) Conditional block Continuity of national grants for priorities priorities  Regional / local governments should have adequate own source revenues + borrowing powers + transfers to pay for their expenditures  Need to update IRA (make it current) and make it an equalization fund  Need to have a Constitutional body called the National Finance Commission to review / recommend allocation formula for the regions  No need to change current tax laws  Need for hard budget constraints to ensure fiscal discipline & macro-economic stability  National government will provide additional support to RG/LGUs through conditional block grants to ensure of national priorities (poverty alleviation, food security, primary health / education, DIVISION OF REGIONS AND JUSTIFICATION

Source: From Sen. A. Pimentel’s presentations / PDP Laban Recommendation: The Constitution should embed the principle of polycentricity, with regions/LGUs forming many political, economic and administrative arrangements, for example whole of Mindanao, forming one economic unit or Eastern Visayas merging with Central Visayas, or cities in Cebu merging as metropolitan unit. Provision against breakaway regions should be spelled out. Allocation from NG = PHP 123.3 B

Allocation from NG = PHP 130.5B

Allocation from NG = PHP 125.5B

Allocation from NG = PHP 88.5B

Allocation from NG = PHP 41.07 B

Allocation from NG = PHP 435.6B Allocation from NG = PHP 79.7B

Allocation from NG = PHP 91.8 B

Allocation from NG = PHP 99.5 B

Allocation from NG = PHP 55.4 B

Allocation form NG = PHP 209.3 B

Allocation from NG = PHP 188.6B

Allocation from NG = PHP 54 B

In conclusion

Federalism is not just about changing structures of governance but more importantly changing mindsets.

The 10 Principles of Federalism should be embraced as a way of thinking. 10 Principles of Federalism