21 September 2006

Soft budget constraint and the IRA system

THE concept of soft budget constraint in the previous post brings to mind the 15-year old Internal Revenue Allotment (IRA) system that for most part has been financing our local governments. For the uninitiated, let me point you to this presentation by Dr. Milwida "Nene" Guevara, a former finance undersecretary and presently CEO of Synergeia Foundation, Inc.

On first glance, the SBC problem, strictly speaking, does not seem to apply to Philippine LGUs; we have yet to hear or see a local government so mired in a financial crisis that the national government had to bail it out. This is because of stringent local budgeting regulations that largely prevent LGUs from operating on a deficit.

This is where Guevara's piece comes in. Among others, it bewails the failure of most Philippine LGUs to develop their local revenue sources, particularly among provinces and municipalities. In 1990, before LGC 91 became law, locally generated monies accounted for 68% of total LGU expenditures. Starting in 1993 onwards, it dropped to 43% and it was downhill even since, with the lowest at 32% in 2001. In 2004, it eased up a bit to 38%.

And why is this so? Because of an endemic dependency on the IRA,
which is a manifestation of the SBC syndrome. The continued expectation that the IRA will increase annually in absolute amounts has bred complacency among most LGUs, to the detriment of fiscal discipline and efficient governance. This is particularly pronounced among provinces (83% of whose income are derived from national transfers) and municipalities (78%). Cities, by comparison, depend on such transfers up to 45% of their income.

This behavior is inconsistent with local autonomy. Quoting Dr. Paul Bernd Spahn, a visiting professor of public finance at the Johann Wolfgang Goethe University in Frankfurt, Peryodistang Pinay has this to say:

Local authorities, for their part, need to shake off a “grants dependency” on the central government and make the most of available options—like taxation powers—to prove they are ready for the responsibilities of autonomy.
Come to think of it: is not the current performance-neutral IRA system one gigantic bailout facility that props up most Philippine LGUs today?