Public Finance Assignment

Department of Public Administration

University of Karachi
Public Finance
Assignment
Q. No. 1. Explain major reasons for the existence of Government.

Governments are necessary to maintain law and order. Laws are essential for society to function. The
government provides safety and security for its people. Government is responsible for providing
infrastructure like build and maintain roads, run hospitals and schools.

Government is the central form of monitoring, regulating the actions of, and providing services and
protection for the citizens of a particular state. There are about as many forms of governments as there are
nations in the world. Even governments that appear to have exactly the same structure can function
differently because the function of government is altered by the culture and preferences of the citizens it
governs. There are several important reasons behind societies' decisions to create central systems of
government. These include:

 Desire to stabilize the economy

 Desire to protect citizens from external threats
 Desire to regulate the actions of citizens and corporations
 Desire to politically legitimize a certain social hierarchy or societal institution

Governments have a major role in the efficacy of a functioning society. Governments ensure that citizens do
not encroach on the rights of others. They also ensure that citizens follow the rules and regulations which
have been instituted by the state. The third, and perhaps the most major, role of government is that it creates
these rules and regulations for the citizens to follow. The fourth role is to maintain beneficial and positive
relationships between itself and the governments of other states.

The most enthusiastic supporters of government state that without government, the main form of society
would be anarchism. Anarchism is the definition of a society in which every individual acts in their own self-
interest, even if those actions harm the interests and rights of other people. Anarchy can potentially lead to
several major problems, including:

 Widespread violence to protect one's resources

 No regulations to protect individuals from encroachments of others upon their rights
 Possible rejection of some vital aspects of society (transportation, industry, environment
maintenance) to focus on others (justice system, education, economic well-being)

Most supporters of government perceive the government as being in a ''social contract'' with its people. A
social contract is created when a government agrees to protect some of the freedoms of its citizens. In return,
citizens agree to relinquish some of their freedoms. 
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Q. No. 2. Differentiate between:

1. Market demand for a public good and market demand for private good.

The total or "market" demand curve for a public good is obtained by the vertical summation of individual
demand curves, which is in direct contrast to the market demand curve for a private good obtained by the
horizontal summation of individual demand curves. Because public goods are nonrival in consumption, total
or "market" demand is obtained by summing the value that each consumer obtains from a given quantity. For
private goods that are rival in consumption, market demand is obtained by summing the quantity each
consumer is willing to buy at a given price.

Public goods (as well as near-public goods) are characterized by nonrival consumption, meaning that every
member of society can receive benefits simultaneously. As such the overall value of public goods is obtained
by summing the value that each individual receives for a given quantity. The nonrival nature of public goods
consumption makes the derivation of the "market" demand different from that of private goods (as well
as common-property goods). The difference is horizontal versus vertical.

The market demand for private goods is derived through the horizontal summation of individual demand
curves. The "market demand" for public goods is derived through the vertical summation of individual
demand curves. For private goods, market demand answers the question: What is the total quantity that
buyers would be willing to purchase at a given price? For public goods the total or "market" demand answers
the question: What is the total value or benefit generated from consuming a given quantity?

The Market Demand for Private Goods

To see the difference, first consider the market demand for private Public Good Demand
goods. The primary focus of the market demand for private goods is on
the price that buyers pay. The total market demand is derived by adding
up, or summing, the quantity demanded by every buyer at a given price.

Take, for example, the market demand for stuffed animals (Wacky Willy
Stuffed Amigos). This particular market contains only two buyers,
Pollyanna Pumpernickel and Duncan Thurley. Suppose that Pollyanna is
willing and able to purchase 2 stuffed animals at a $1 price and Duncan is
willing and able to purchase 6 stuffed animals at this price.

In this case, the total market demand at the $1 price is 8 stuffed animals
(2 + 6). The market demand curve is then derived by identifying the
quantities that these two buyers would be willing and able to purchase at
different prices.

The market demand is the horizontal summation of the individual demand curves of Pollyanna and Duncan.
The quantities are horizontally summed for a given price. Click the [Private Demand] button to illustrate this
derivation. The resulting red demand curve is the market demand for Wacky Willy Stuffed Amigos.

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The Market Demand for Public Goods

Nonrival consumption makes the derivation of the demand for public goods a different story. Everyone can
enjoy the benefits of a public good simultaneously. The consumption by one person does not prevent the
consumption by another. As such, the value society receives from a public good is the sum of the value
received by all who enjoy the benefits.

This means that the demand for public goods is based on the vertical summation of individual demand curves.

Let's return to our two buyers, Pollyanna and Duncan, however, in this case they are consuming a public good,
such as national defense. The focus of attention is now on the price each buyer would be willing to pay for a
given quantity of the good (say 2 fighter jets). Suppose that Pollyanna is willing and able to pay $1 for a given
level of defense and Duncan is willing and able to pay $3 for this level.

The total "market demand" is the sum of the prices that each is willing to pay, which is $4 ($1 + $3). The
"market demand" curve is then derived by summing the prices that these two buyers would be willing and
able to pay for different quantities. The "market demand" curve is the vertical summation of the individual
demand curves of Pollyanna and Duncan. The prices are vertically summed for a given quantity. Click the
[Public Demand] button to illustrate this derivation. This new red demand curve labeled D is now the "market
demand" for the public good.

2. Pure Public Good and Impure Public Good

Pure public goods are the Goods that are perfectly non-rival in consumption and. are non-excludable.
Non-rival in consumption: One individual's consumption of a good does. not affect another's opportunity to
consume the good. Non-excludable: Individuals cannot deny each other the opportunity to.

For Example: Knowledge is a pure public good: once something is known, that knowledge can be used by
anyone, and its use by any one person does not preclude its use by others. As an example, our use of calculus
to study economics does not prevent millions of other people from simultaneously applying calculus to
entirely different problems in industry and science. 

Impure public goods: Goods that satisfy the two public good conditions (non-rival in consumption and non-
excludable) to some extent, but not fully.
In most of the examples given here, the properties of rivalry and excludability seem to be correlated. Beer,
pizza, shirts and haircuts are pure private goods: both rivalrous and excludable.

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3. Direct Tax and Indirect Tax

A direct tax is one that the taxpayer pays directly to the government. These taxes cannot be shifted to any
other person or group while an indirect tax is one that can be passed on-or shifted-to another person or
group by the person or business that owes it while a direct tax is a tax that a person or organization pays
directly to the entity that imposed it. Examples include income tax, real property tax, personal property tax,
and taxes on assets, all of which are paid by an individual taxpayer directly to the government.

Unlike direct taxes, indirect taxes are levied on goods and services, not individual payers, and collected by
the retailer or manufacturer. Sales and Value-Added Taxes (VATs) are two examples of indirect taxes.

The differences can be summed up as follows:

Q. No. 3. Explain the main step of a Project Cycle.

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Project initiation: is the first Project Management life cycle phase, where the project starts. It provides an
overview of the project, along with the strategies required to attain desired results. It is the phase where the
feasibility and business value of the project are determined.

Planning phase: frames a set of plans which help to guide the team through the implementation phase and
closing phase. The program created at this point will surely help you to manage cost, quality, risk, changes,
and time. A lot of planning related to the project takes place during this phase. On defining project objectives,
it is time to develop a project plan for everyone to follow.

The project plan developed should include all the essential details related to the project goals and objectives
and should also detail how to achieve them. It is the most complex phase in which project managers take care
of operational requirements, design limitations, and functional requirements.

Project execution: is the phase where project-related processes are implemented, tasks are assigned, and
resources are allocated. The method also involves building deliverables and satisfying customer requirements.
Project managers or team leaders accomplish the task through resource allocation and by keeping the team
members focused.

Project monitoring and control phase: is all about measuring the performance of the project and tracking
progress. It is implemented during the execution phase. The main goal of this phase is to check whether
everything aligns with the Project Management Plan, especially concerning financial parameters and
timelines.

Project closure phase: represents the final phase of the Project Management life cycle, which is also known as
the “follow-up” phase. Around this time, the final product is ready for delivery. Here the main focus of the
project manager and the team should be on product release and product delivery. In this stage, all the
activities related to the project are wrapped up. The closure phase is not necessarily after a successful
completion phase alone. Sometimes a project may have to be closed due to project failure.
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Q. No. 4. List the Project Approving Authorities in Pakistan working at various levels.

They are as follows:

1. Executive Committee of National Economic Council (ECNEC)

ECNEC is the final approving authority for any provincial project costing beyond 10,000 million and projects as
mentioned below:

 Any project involving foreign component

 Any project of irrigation costing 1,000 billion or more

2. Central Development Working Party (CDWP)

CDWP, which is located at Planning & Development Division, Planning Commission, Islamabad, is a clearing house
for any provincial project. The technical, financial and economic analyses of various projects are carried out by the
Appraisal & Evaluation, Technical and other related sections. Projects with individual costs exceeding PKR. 10,000
million are recommended by the PDWP to the CDWP.

3. Provincial Development Working Party (PDWP)

The Provincial Development Working Party (PDWP) is a clearing house of development projects sponsored by
various line departments. The PDWP is empowered to sanction projects ranging from PKR. 400 million to PKR.
10,000 million.

4. Departmental Development Sub-committees (DDSC)

Projects costing from PKR. 200 million up to PKR. 400 million are within the approving competency of DDSC. The
DDSC constitutes of the following committee members:

5. Divisional Development Working Party (DDWP)

Divisional Development Working Party (DDWP) headed by the respective Commissioner shall have power to
approve development schemes costing Rs: 50-200 million. The DDWP constitutes of the following committee
members.

6. District Development Committees (DDC)

District Development Committees (DDC) Shall have power to approve development projects up to the value of PKR.
50 million funded by provincial government pertaining to (Education, Primary & Secondary Healthcare, Public
Health, Water Supply Sewerage & Sanitation, Roads/Farm to Market, Public Buildings, Any other
sector/programmed assigned by the Government). The DDC constitutes of the following committee members:

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Q. No. 5. How projects are identified?

The key feature of this activity is recognizing that identifying candidate projects is something that an
organization should do on a regular basis, not just once each year. Further, when examining projects for
approval, it is vital to also examine the resource capacities and capabilities available for assignment. It is futile
to assign a major new project requiring extensive discovery of business requirements if no business analysts
are available. Project Identification proceeds Project Initiation.

Before analyzing project identification, it should be kept in mind that identifying projects more regularly may
be easier if an organization implements project management tools. PM software keeps managers and team
members abreast of upcoming needs in the company, and it also shows teams what people and resources are
available and best suited for a project. Project management tools also allow teams to manage risk more
effectively. If a project will take significant time from a team’s already busy schedule, a PM tool will help
managers decide exactly where and how that project should fit into the team’s priorities. Five of the best
project management tools are listed below: keep them in mind when following the project identification
process. They can help teams identify projects more frequently and better plan each stage. 

Q. No. 6. List the main criteria for project evaluation.

Projects are analysed on the basis of six key criteria (relevance, coherence, effectiveness, efficiency,
overarching developmental impact and sustainability) agreed upon by the international community of donors
as represented by the Development Assistance Committee (DAC) of the Organisation for Economic
Cooperation and Development (OECD).

The rating is summarised using a numerical scale.

Relevance is used to assess whether the project adequately addresses an important development objective
(priority), whether the design was suitable for this purpose (validity of the results chain) and whether the
needs of the target group were adequately taken into account. In addition, it is assessed whether the strategic
requirements of the partner country and the German government were taken into account.

Coherence refers to the compatibility of the development measure taken with other interventions in the
partner country and/or sector. Internal coherence focuses on the complementarity and synergies of German
DC and consistency with international norms and standards to which German DC is committed. External
coherence analyses the complementarity, coordination and use of joint systems with partners, other donors
and international organisations.

The criterion of effectiveness is used to check whether the objectives of the development projects have been
achieved at outcome level. In order to enable a meaningful target-performance comparison, project
objectives are - if possible - expressed in concretely measurable production or supply levels. Positive or
negative effects that are not directly intended and that can be observed are also included in the evaluation.

The criterion of efficiency refers to the economic viability of a project. The economical use of resources is of
central importance here. Production efficiency assesses the appropriateness of the input required to produce
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goods and services. Even more important is analysing allocattion efficiency - the appropriate ratio of resources
used to impact achieved. To assess this, comparison with alternative ways of achieving similar impacts is used.

The overarching developmental impacts measure the intended and unintended changes brought about by the
measure. It refers to the objectives for which the intervention was chosen. Overarching impacts cannot
always be measured, but plausibility must be estimated with circumstantial evidence.

Sustainability refers to the permanence of effects at outcome and impact level. Our goal is not only to
achieve short-term improvements, but to reach sustainable impact. Therefore, we check whether the
improvements that have occurred are lasting. Prerequisite for lasting effects and impacts is, that the project
executing agency or the target group is able to successfully continue the funded project in the long term after
the external financial or technical support has ended

The key criteria are initially assessed on the basis of a six-point rating scale. Scores of 1 to 3 indicate a
"successful" project, while 4 to 6 are "unsuccessful".

The partial scores for the six key criteria are combined in accordance with a specific weighting that is defined
for each project in order to give an overall score. This overall rating indicates at a glance whether a project has
been successful, and to what extent.

It should be noted that a project can generally be considered developmentally “successful” only if the
achievement of the project objective (“effectiveness”), the impact on the overall objective (“overarching
developmental impact”) and the sustainability are rated at least “satisfactory” (level 3).

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Q. No. 7. Write the main sources to finance public sector activities.

The federal and local governments spend money that is allocated via federal, state, and local budgets. To pay
for these expenses, the governments need to collect funding from a variety of sources.

There are multiple classes of funding that the government can rely on, but three broad categories that they
fall into are:

(1) Tax revenue: Most money that the government collects comes from tax revenue. Most of these funds
come from taxes on income, corporate taxes, property taxes, and sales taxes. The government can always
count on this income in both the short and the long term.

(2) Penalties and fines: The government has the ability to impose fines on individuals and businesses. Some
examples of these fines include parking tickets, penalties for submitting your tax returns late, and fines for
breaking the law. While this is a much smaller portion of the funds that get collected, it is still money that the
government can count on.

(3) Borrowing money: Governments spend more than it collects via taxes and penalties/fines. To fund the
rest of the expenses, it borrows money. This type of funding, however, is not a viable option in the long term,
since the government needs to eventually pay back the money.

Q. No. 8. Explain briefly the tax structure of Pakistan.

In Pakistan, resource mobilisation takes place at the federal and provincial government levels. Main taxes
are broadly differentiated in direct and indirect taxes (with surcharges included in the indirect taxes). As per
the constitution of Pakistan, the taxes for collection for different tiers of the governments are defined as
shown in the table below:

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Q. No. 9. What are the requirements for a good tax structure?

A good tax system should meet five basic conditions: fairness, adequacy, simplicity, transparency, and
administrative ease.

1.  Fairness, or equity, means that everybody should pay a fair share of taxes. There are two important
concepts of equity: horizontal equity and vertical equity.

 Horizontal equity means that taxpayers in similar financial condition should pay similar amounts in taxes.

 Vertical equity is just as important, however. Vertical equity means that taxpayers who are better off should

pay at least the same proportion of income in taxes as those who are less well off. Vertical equity involves
classifying taxes as regressive, proportional, or progressive.
 Regressive tax: A tax is regressive if those with low incomes pay a larger share of income in taxes than those

with higher incomes. Almost any tax on necessities, such as food purchased at a grocery store, is regressive
because lower income people must spend a larger share of their income on these necessities. Oklahoma’s
sales tax is one example.
 Proportional tax: A tax is proportional if all taxpayers pay the same share of income in taxes. No taxes are

truly proportional. Property taxes often come closest since there is typically a close relationship between a
household’s income and the value of the property in which they live. Corporate income taxes often approach
proportional because one rate applies to most corporate income.
 Progressive tax: A progressive tax requires higher-income individuals to pay a higher share of their income in

taxes. The philosophy behind progressive taxes is that higher income people can afford and should be
expected to provide a bigger share of public services than those who are less able to pay. The federal income
tax is the best example of a progressive tax; the Internal Revenue Service reports that the top one percent of
taxpayers by income paid 37 percent of federal income taxes in 2016.

While no system of taxes is perfect, it is important to seek horizontal equity because taxpayers must believe
they are treated equally. It is just as important to seek vertical equity so government does not become a
burden to low-income residents.

2.  Adequacy means that taxes must provide enough revenue to meet the basic needs of society. A tax system
meets the test of adequacy if it provides enough revenue to meet the demand for public services, if revenue
growth each year is enough to fund the growth in cost of services, and if there is enough economic activity of
the type being taxed so rates can be kept relatively low.

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3.  Simplicity means that taxpayers can avoid a maze of taxes, forms and filing requirements.  A simpler tax
system helps taxpayers better understand the system and reduces the costs of compliance.

4.  Transparency means that taxpayers and leaders can easily find information about the tax system and how
tax money is used.  With a transparent tax system, we know who is being taxed, how much they are paying,
and what is being done with the money. We also can find out who (in broad terms) pays the tax and who
benefits from tax exemptions, deductions, and credits.

5.  Administrative ease means that the tax system is not too complicated or costly for either taxpayers or tax
collectors. Rules are well known and fairly simple; forms are not too complicated; the state can tell if taxes are
paid on time and correctly, and the state can conduct audits in a fair and efficient manner. The cost of
collecting a tax should be very small in relation to the amount collected.

Q. No.10. Why there are so many taxes? Why not a single Tax?

A single tax system presented many difficulties. It proved inefficient in solving the real purpose behind a good
tax system. Consequently, economists now widely acclaim multiple tax system.

A multiple tax refers to the tax system in which taxes are levied on various items or bases. A modern economy
is not one objective economy. It tries to forge ahead simultaneously along the paths of growth, equitable
distribution of income and wealth, economic stabilisation, and soon.

And since no single tax can be expected to help the economy on all fronts, a choice for a multiple tax system
becomes inevitable. Different taxes contribute to the attainment of different objectives. Thus, some taxes
would help the economy in the direction of regional balanced growth. Still others may be needed so as to
provide adequate revenue for the government treasury, and so on.

The other advantages of multiple tax system are that it is efficient in checking the tendencies of frequent
tax evasion. It increases the tax revenue of the government. It is more flexible than the single tax
system.

Income in a modern economy originates from many sources, justice and equity would demand that
state should tax all the important sources of income in an equitable manner. One kind of taxation
can remove the weaknesses of the other kind of taxation.

However, a multiplicity of taxes is undesirable and should be avoided. A large number of taxes would
involve a high cost of collection. It is therefore best to rely on a few substantial taxes for achieving
the major portions of the tax revenue. Meanwhile, it has some merits as well that include:
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 Useful to achieve social and political objectives
 Tax system becomes broad based and even covers every sector in the country
 Difficult for individuals to evade taxes altogether

 Results in equitable tax burden since it is compound of direct and indirect, proportional and
progressive taxes.

Q. No. 11. What is preferable, Direct Tax or Indirect Tax?

The structure and characteristic of a tax system can be understood from the share of direct taxes
in total tax revenue. Of the two types of taxes, which one should have the highest contribution?

Before examining the question, we should have the basic understanding about both direct and
indirect taxes. Direct taxes are taxes on income, property, capital gains etc. On the other hand,
indirect taxes are taxes on goods and services.

The main direct taxes are corporate income tax, personal income tax and capital gains tax,
whereas the main indirect taxes are excise duties, customs duties, service taxes and sales tax
(state).

In a country, if most of the tax revenues are coming from direct taxes, it means that the rich who
have the ability to pay taxes have contributed more. It is the rich out of their profit (corporate)
and income (personal income tax) that gives more tax revenue here. Here, as bulk of the tax
revenue comes from the rich without injuring the poor, the tax system is progressive (taxes the
rich more).

There is a basic principle in economics called ability to pay taxation. The principle instructs that
tax revenue should be collected from those who have the ability to pay it. This principle indicate
equity in the tax system. In the case of a direct tax dominated tax system, there is equity in the
sense that the tax contribution comes from those who have the ability to pay (rich).  

Now, in the case of indirect taxes, the rich and poor should pay equal tax rate while they purchase
a commodity. Here, indirect taxes don’t consider the income of the consumer. Oft en people say
that indirect taxes are regressive. The meaning is that it taxes too much the poor (same rate as on
rich though the poor have low income) compared to the poor.

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Hence, a tax system where bulk of the tax revenue is coming from indirect tax is regressive. On
the other hand, a tax system where direct taxes contribute more to the tax revenue is
progressive, equitable and hence is ideal.

Q. No. 12. Explain economic Justification for Indirect Taxes.

An indirect tax is a tax imposed by the government that increases the supply costs of producers. The amount
of the tax is always shown by the vertical distance between the pre- and post-tax supply curves. Because of
the tax, less can be supplied to the market at each price level.

Indirect taxes are those imposed by a government on goods and services, in contrast to direct taxes, such as
income and corporation tax, which are levied on incomes of households and firms. Indirect taxes are also
called expenditure taxes.

The purpose of indirect taxes is to:

1. Generate tax revenue for a government.
2. Discourage consumption of ‘harmful’ products – such taxes are often called ‘sin’ taxes.
3. Encourage consumption of ‘good’ products.

Below are some benefits of this tax:

1. Easy to Fetch
It is relatively easier to collect than direct tax. Retailers or service providers add this tax to a product's market
price and collect it only upon purchase. Therefore, the initial taxpayer (retailer or service provider) need not
worry about recollecting it from their customers.

2. Convenient and Time-Saving

One of the merits of indirect tax is that it is transferable from one person to another. Since the taxpayer is the
end buyer, retailers or service providers can collect it directly at their stores. This makes the collection of this
tax time-saving and convenient.

3. Mitigation of Stress of Tax Payment

The taxpayers do not need to pay this tax directly from their salary. Our government implements it through
the market value of a product and collects it at a point of purchase. Hence, it does not feel like a burden to
the taxpayers.

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4. Fair Distribution of Tax

This tax is inversely related to the necessity of any commodity. Therefore, items that serve our essentials and
basic needs have a lower tax. Conversely, luxurious and valuable commodities will hold higher taxes.

5. Inevitable to Escape
It is not easy to escape indirect tax as it comes included in a good and service price tag. Therefore, you pay
this tax automatically whenever you make a purchase.

6. Equal Collection from All

An income of less than ₹2.5 lakhs annually does not fall under any income tax slab. People having this earning
do not need to pay direct tax. However, they pay our government indirect tax and contribute to the
development of our country.

Q. No. 13. Explain major issues related to present tax structure of Pakistan.

No country becomes welfare and prosperous state unless it would have managed all its financial
requirements both on administrative and development sides within its own resources. Pakistan since its
inception has been facing the problem of deficit in collection of tax and resultantly the govt has to borrow
loans both internally and internationally. Further, due to lack of available resources, there is always a
shortage in kitty for the government to spend money on the welfare of its citizens.

One of the reason of deficit in collection is large number of cases counting in thousands pending before
Supreme Court, High Courts , Tribunals and before Commissioner Appeals Inland Revenue and Collector
Appeals (Customs) which involving billions of Rupees Revenue is stuck up due to protracted litigation and
such situation has now become big challenge now only for FBR but also for courts and government, thus this
situation required immediate and urgent strategy by coordinating all stakeholders with positive way ford.
Due to such immense workload within FBR, the quality of decision making sometimes professionally
becomes difficult and has become a big challenge for the Federal Board of Revenue because they have to
bank upon the input from field tax formations. Another aspect of this backlog and waste of time & energy is
frivolous litigations by either side including tax payers. Many taxpayers consider the tax system unfair. They
are critical of the fact that it enables many high-income individuals to pay the government a smaller
percentage of their incomes than the percentage required from taxpayers with lower incomes. Our tax
system could be simple if its only purpose were to raise revenue. But it has other goals, including fairness,
efficiency, and enforceability. And Congress has used the tax system to influence social policy as well as to
deliver benefits for specific groups and industries. For many developing countries the challenge is not so
much whether to increase revenues -- in most cases they must do so if they are to grow and prosper -- but
rather how to do so. Essentially, there are only three possibilities: raise rates, expand bases, and improve
administration.

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Q. No. 14. Explain the economic rationale for Intergovernmental Fiscal Transfers

Intergovernmental fiscal transfers are a dominant feature of subnational finance in most countries. They are
used to ensure that revenues roughly match the expenditure needs of various orders (levels) of subnational
governments. Intergovernmental transfers are an important tool of public sector finance in both
industrialized and developing countries.

Economic rationale for transfers and implications for grant design

We can identify five broad economic arguments for central-state transfers each of which is based on either
efficiency or equity, and each of which may apply to varying degrees in actual federal economies.

i. The fiscal gap

An imbalance between the revenue-raising ability of subnational governments and their expenditure
responsibilities (the "vertical imbalance") might arise for two reasons. First, there may be (often
inappropriate) assignment of taxing and spending responsibilities such that expenditure needs of subnational
governments exceed their revenue means. Second, many taxes are more efficiently collected at the central
level responsibilities to avoid tax competition and interstate tax distortions, so transfers are necessary to
enable local levels to carry out their expenditure responsibilities.

ii. Fiscal inequity

A country which values horizontal equity (i.e., the equal treatment of all citizens nationwide) will need to
correct the fiscal inequity which naturally arises in a decentralized country. Subnational governments with
their own expenditure and taxation responsibilities will be able to provide their residents different levels of
services for the same fiscal effort owing to their differing fiscal capacities. If desired, these differences may be
reduced or eliminated if the transfers to each jurisdiction depend upon its tax capacity relative to others, and
upon the relative need for and cost of providing public services.

iii. Fiscal inefficiency

The argument for such transfers is reinforced by the fact that the same differentials which give rise to fiscal
inequity also cause fiscal inefficiency.

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iv. Interstate spillovers

This is the traditional argument for matching conditional grants. Normally, subnational governments will not
have the proper incentive to provide the correct levels of services which yield spillover across jurisdictions. In
theory, a system of matching grants based on the expenditures giving rise to the spillovers will provide the
incentive to increase expenditures. In practice, the extent of the spillover will be difficult to measure so the
correct matching rate to use will be somewhat arbitrary.

v. Fiscal harmonization

To the extent that the central government is interested in redistribution as a goal, there is a national interest
in redistribution that occurs via the provision of public services by the subnational governments. Expenditure
harmonization can be accomplished by the use of (non-matching) conditional grants, provided the conditions
reflect national efficiency and equity concerns, and where there is a financial penalty associated with failure

to comply with any of the conditions. In choosing such policies there will always be a trade-off between
uniformity, which may encourage the free flow of goods and factors, and decentralization which may
encourage innovation, efficiency and accountability.

Q. No. 15. Explain revenue sharing mechanism in Pakistan.

Interest revenues, dividends, and profits received by various regulatory bodies are the primary sources.
Furthermore, many government services like as social services, community services, economic services,
defense services, and so on generate money for the government. Domestic taxes, which include income tax,
sales tax, and Federal excise duty, account for around 90% of FBR revenue. These taxes are not only
conceptually related, but also operationally interdependent. The time-tested worldwide tenor confirms this.
The consolidation of various taxes under a single administrative structure had been anticipated for some
time, but never before in the history of Pakistan's economy was the necessity for this shift so compelling. In
response to these pressures, and with the goal of improving the tax-to-GDP ratio, the FBR's Inland Revenue
Wing was established, integrating the three domestic taxes.

It is envisaged that the establishment of this wing would benefit taxpayers by allowing them to handle their
tax concerns in a single organizational structure. The establishment of this wing would also benefit tax
administration by allowing access to taxpayer data for various domestic levies.

He would be assisted by a Secretary (Sales Tax & Federal Excise Duty Budget). His responsibilities would
encompass all budget and policy issues pertaining to dutiable/taxable commodities and services. Post-
budget classifications and SROs - ST and FE legislation and process, as well as their interpretation, issue of
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 Public Finance Assignment
SROs/ General Orders/ Circulars/ Clarifications, and so on. Clarifications about products and services. Goods
and tariff services are valued.

Q. No. 16. Assume that the life of a Steel Mill is estimated to be 5 years. The total capital cost of the
project is Rs.3,000 and the completion time of the project is one year. The recurring cost of the project is
Rs.200 per annum starting from second year of the project. The estimated benefits from the project are
Rs.1,200 per annum starting from second year of the project. Calculate the Net Present Worth and
Benefit-Cost Ratio of the project at 5% and 10% discount rate and explain at which discount rate
government should undertake the project.
 Solution:

Total Capital Cost of the Project (Completion after 1 Year) = Rs. 3000

2nd – 6th Year (5 Year Life):

Benefits Per Year = 1200

Less: Recurring Cost per year = (200)

Net Cash Inflows = 1000

NPV @10%:

(3000) 1000 1000 1000 1000 1000

= + 2 + 3
+ 4
+ 5
+ 6
1.10 1.10 1.10 1.10 1.1 0 1.1 0

= (2727) + 826 + 751 + 683 + 621 + 564

= (2727) + 3445

= Rs. 718

NPV @5%:

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 Public Finance Assignment
(3000) 1000 1000 + 1000 + 1000 + 1000
= + +
1.05 1.05 2 1.05 3 1.05 4 1. 055 1. 056

= (2857) + 907 + 864 + 823 + 784 + 746

= (2857) + 4124

= Rs. 1267

Benefit-Cost Ratio, if 10% Discount Rate:

3445
= = 1.26
2727

Benefit-Cost Ratio, if 5% Discount Rate:

4124
= = 1.44
2857

 Since, at 5% NPV at Benefit Cost Ratio is higher than 10%, therefore, the government should
undertake 5% Discount rate.

Q. No. 17. Identify the Nature of the commodities.

S. No. Commodity Nature Reason(s)

Such a commodity is inelastic. Demand will always remain constant plus it is
1. Defense Service Necessity
essential for safety and protection.

Journey by Demand is elastic here but not more elastic. There is a little change in price that
2. Comfort
Train moderately affects the demand. Ed < 1.

Apple Mac
3. Luxury Elasticity is >1, i.e., demand will decrease as soon as the price increases.
Book

4. Pizza Luxury Elasticity is >1, i.e., demand will decrease as soon as the price increases.

Such a commodity is facilitating learning and is important for attendance.

5. Class Lecture Necessity
Moreover, such a commodity is inelastic. Demand will always remain constant.

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 Public Finance Assignment

Q. No. 18. Assuming there are two individuals in the economy and consuming a public good. If demand for
both individual and market supply are given as:

Determine the market price for the Public Good and price paid by each individual. Where:
 G is Public Good
 DA is Demand for Individual A DB is Demand for
Individual B PG is Price of Public Good
 S is Market Supply of Public Good

Solution:
In the above graph:
 MPA is Market Price for Individual A
 MPB is Market Price for Individual B
 PPA is Price paid by Individual A
 PPB is Price paid by Individual B

The market price is the cost at which the quantity supplied and the quantity demanded are equal.
The cost at which something is purchased is its price paid.
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Public Finance Assignment

Prepared by: Dr Asghar Ali asgharplus7861@gmail.com

Public Finance Assignment

Prepared by: Dr Asghar Ali asgharplus7861@gmail.com