-This article was originally published by Ashesh Shrestha in The Himalayan Times on June 5, 2016.
Nepal has been declared a federal country by the new constitution. The basic idea of federalism is that, unlike a unitary system of governance, there will be multiple tiers of government (federal and subnational governments) having specific scope of authority. The power is devolved and spread out to these sub-national governments whereby each sub-national government has control over its jurisdiction. But what does that mean to the people? With federalism and devolution of powers, there are certain other things that need to be guaranteed for people to be able to reap the benefits of federalism.
Free mobility benefits the consumers
Free mobility ensures competition between firms — not just within a province, but also between firms all over the country. Competition discourages provinces from creating tariff or non-tariff barriers to trade. Hence, the difference in the prices of goods and services in various parts of the country will result only because of transportation cost. Such competition creates pressure for a firm to strive to be one of the bests in the business. To be able to occupy a substantial market share, firms now have to constantly innovate and offer better quality goods at low prices. In this way, the consumers benefit the most. If provinces have regulatory power over mobility, then they can influence the prices, and distort the market. While some would justify such protectionism, such a practice gives them no incentive to innovate, which only means that the consumers are worse off, and a few businesses live at the expense of many consumers.
Limits on discretionary powers
The free movement of labour and capital helps limit the discretionary powers of sub-national entities as well. It discourages the state government from increasing the rate of taxes or introducing new tax headings as people can choose to start their business or go live in another province when increase in taxes reduce their disposable income and increase cost of living within this particular province. People could either wait until the next election and vote out the government, or move to a different province all together when the discretionary powers utilised by the sub-national governments create a stifling environment. In both cases, the sub-national government pays a big price. This implies that if labour and capital are not freely mobile, subnational governments will enjoy monopoly power, as they will not face any competition from other states for labor and capital. If capital and labour are not able to free move between the provinces, the provincial governments can use their powers to basically extract wealth by charging higher taxes, at least in the short run. Free mobility thus serves as a mechanism of check and balance.
Optimum allocation of public spending
The problem of non-optimal allocation of public spending occurs when some people are not willing to pay for the price of the particular goods and services provided by the government and others are willing to pay even more. The problem of non-optimal allocation of public spending can be solved in a federal system of governance with many competing subnational governments. However, even federalism cannot prove itself in this regard if free mobility is not ensured. In a federal system, with the provision of free mobility, labour and capital can choose among the jurisdictions which best satisfy their desire for public goods. Each jurisdiction will have distinct pattern of revenue and expenditure. The business and residents then choose where to settle according to their preference of public services and taxes. The businesses and citizens who are willing to pay the price of the goods and services provided by a particular province will be residing there. The preferences of the people match with the revenue and expenditure pattern of the government, ensuring optimal allocation of public spending.
The problem of agglomeration
Despite all of aforesaid benefits, free mobility has been criticised on the grounds that it brings the problem of agglomeration (or urban concentration). The problem is, when labour and capital are freely mobile, all businesses and people tend to move to urban areas. However, studies have found that agglomeration is in fact beneficial to the economy, especially for low-income countries. It has been found that low-income countries tend to grow rapidly when businesses and people agglomerate. Also, much of the public discourse tends to miss out on the spatial effect of urban concentration — the development of an urban centre leading to that of urban sub-centers, and so on. On this ground, agglomeration could in fact help speed up the pace of Nepal’s growth. The discourse over federalism has always revolved around the political aspects, for Nepal. In the process, principles of federalism as catalyst for economic change have been neglected. Free mobility is one of such principles that will enable Nepali people to draw economic benefits from federal structure; and this is what would be more important for the people. The discourse, therefore, needs to shift towards economic aspects of federalism.