The World Bank stated on Wednesday that only Pakistan's two largest provinces—Punjab and Sindh—allocated Rs806 billion in grants to the federal government, recommending a review of the National Finance Commission (NFC) formula to permanently resolve fiscal imbalances. This includes backing deductions from provincial shares for seven national public goods services.
Grant Shortfall and Provincial Contributions
The Rs806 billion grant is Rs229 billion, or 22%, less than what the federal government had budgeted, as Khyber-Pakhtunkhwa (K-P) did not allocate any funds in its budget. The Washington-based lender released a comprehensive report on the implementation of the seventh NFC Award, faulting the federal government for spending in constitutionally devolved areas, causing fiscal stress. It also noted that provincial governments spent unwisely, with major expenditures on creating more government jobs, increasing salaries, and pensions after 2010.
The report, titled "Strengthening of Fiscal Federalism in Pakistan," was launched days after provinces agreed to give up Rs1.035 trillion in grants to fund national security, large dams, and stabilize future fuel prices. "The reverse grants are an attempt to address vertical imbalances and provide a short-term financing solution, but broader efforts will be required to sustainably resolve fiscal federalism challenges within the constitutional framework," said Tobias Haque, Lead Country Economist at the World Bank.
Federal and Provincial Spending Patterns
According to Tobias's presentation, Punjab allocated Rs546 billion and Sindh Rs260 billion in their budgets for federal expenses, 22% short of federal expectations. "Khyber-Pakhtunkhwa and Balochistan did not allocate any money in their budgets," said Jaffer Askari, an economist at the World Bank. The World Bank urged the federal government to reduce wasteful spending overlapping with provincial mandates. It suggested that after achieving savings, a federal revenue potential assessment should determine if further vertical rebalancing is needed.
The report states that the 18th Constitutional Amendment devolved responsibility for social services and economic functions to provinces, yet the federal government continues to operate in devolved areas, causing waste and blurring accountability. Total federal expenditure increased from an average of 11.2% of GDP during FY02-09 to 13% during FY10-24. Federal spending on devolved topics increased from 0.5% to 0.7% of GDP over FY08-24, including 0.5% of GDP on BISP by FY24.
Civil Service Expansion and Fiscal Impact
The report revealed that despite devolution, the number of civil servants in devolved functions remained unchanged through FY24, while federal employment in non-devolved sectors increased by 85% between 2009 and 2024, a net rise of 191,004 employees. This increase is largely attributed to the expansion of non-military security personnel. Relevant units, originally designed for border security, now perform domestic policing roles—a constitutionally devolved function. Although these forces operate at the provincial level, their salaries are 70% federally funded, with provinces contributing only 30% as a special allowance.
A weak overall revenue and macroeconomic performance, along with misalignment between federal financing and functional needs, has materially contributed to Pakistan's fiscal deficit and public debt accumulation. The lender stated that the current NFC framework reduced federal resources without a commensurate adjustment in expenditure responsibilities, driving a structural federal fiscal deficit.
Devolution Outcomes and Recommendations
Bolormaa Amgaabazar, Country Director of the World Bank, said some adjustments can be made in the NFC formula without politicizing it. "The biggest disappointment is that the first phase of devolution did not achieve the intended objective of improving social services," she said. The report noted that while provinces have increased spending on basic services since the 18th Amendment, the largest increase has been in administrative expenses. Around 80% of consolidated provincial expenditure continues to be absorbed by recurrent costs, with the largest share of incremental spending on general public services and administrative costs rather than education or health.
Current expenditures absorbed approximately 82% of the incremental resources transferred to provinces over FY09-23, driven primarily by increased spending on salaries and pensions as provincial bureaucracies expanded. During FY09-23, real provincial spending on salaries and pensions increased by 250% and 330%, respectively. Additional salary expenditure on education and health accounted for 36% and 18% of the incremental wage bill, respectively.
The World Bank recommended a transparent fiscal gap approach to replace the current complex multi-factor formula, allocating divisible pool resources based on standardized assessments of expenditure needs versus own-source revenue capacity. This would eliminate disincentives to revenue effort and avoid penalties on provinces for fiscal efficiency. This equalization framework could be complemented by conditional transfers tied to measurable service delivery outcomes in devolved sectors such as education and health, with disbursements verified by an independent third party and supported by strengthened federal and provincial statistical systems, said Tobias Haque.
