The present government is completing its five-year tenure in less than 100 days from now. There is an overwhelming consensus within and outside the country that Pakistan’s economy has never been in such a bad shape as it is in now. This government had inherited an extremely fragile economy in June 2013 but it will leave behind even a more fragile economy by June 2018. God Almighty showered enormous opportunities on this government to strengthen Pakistan’s economy. Sadly, these opportunities were squandered by the regime through a weak, myopic and disjointed economic team.
By end-June 2018, the present government will bequeath multi-dimensioned economic and social challenges to the next government. These challenges include stagnant/declining investment (both domestic and foreign), slower economic growth failing to create enough jobs, rising unemployment, particularly youth and prime age unemployment in urban areas of the country, growing income inequality, rising illiteracy, declining school enrolment and health facility, poor governance and above all, unprecedented rise in corruption.
Other macroeconomic challenges include large fiscal and current deficits, unsustainable rise in public and external debts, external debt repayment difficulties, unpaid bills amounting over Rs 2.5 trillion parked elsewhere (out of the budget), ill-thought of NFC Award, unattended power sector issues, widened gap between public and private sector, snail-paced progress on CPEC and the Financial Action Task Force (FATF) issues.
Additional challenges include thoroughly weakened key economic institutions, corrupted growth, deficit, unemployment and other key economic statistics, and most importantly, a hostile external environment. The above-listed challenges are indeed daunting but what is more frightening is that no political party, large, medium or small has any credible economic team. When they come to power, they have no idea as to how to address inherited economic challenges. This is what we have observed since 2008 with each new government bequeathing a real economic mess to the incoming administration.
How should the new government address the multi-dimensional economic challenges? A pre-requisite for prudently addressing these challenges is to have a credible economic team consisting of 6-8 persons with political leadership providing them full support. The second step is to prioritize these challenges as addressing them simultaneously or in one go would be a gigantic task.
The greatest and the most immediate challenge for the new government would be to prevent insolvency and protect the country’s balance of payments. The present government did little to improve the balance of payments and borrowed ruthlessly to pass their time. When this government leaves in May/June 2018, the country’s foreign exchange reserves would be at the same level this government had inherited in June 2013, that is, around $6 billion (after adjusting forward market buying by the SBP). In the meantime, they would leave behind external debt and liabilities close to $100 billion (including the impact of translation effect amounting approximately $2.0-2.5 billion due to the depreciation of US dollar viz. major currencies. How to save the country from insolvency will be the immediate challenge for the new government. I would urge the major political parties to start preparing themselves for this eventuality.
How to protect the country’s balance of payments would be yet another immediate challenge. Former finance minister of this government did everything to damage the country’s exports. He withheld the refund/rebate of exporters to jack up revenue artificially and forced them to borrow from commercial banks to run their factories which added to their cost of production. He also resorted to advance tax which is nothing but borrowing from the corporate sector to artificially jack up the revenue. Seldom are these advance taxes adjusted and hence the FBR is in perpetual borrowing from the corporate sector in the name of advance taxes. He not only appreciated the currency by almost 10 percent but also maintained a fixed exchange rate policy throughout his tenure, all in connivance with the IMF. Furthermore, our industries were forced to pay relatively high cost for energy as compared with their main competitors.
In addition, the government never bothered to interact with industries, particularly exporters to address their grievances. All these factors made Pakistani exporters non-competitive in international market. Consequently, exports continued to decline from $25 billion to $20 billion during the period. Imports on the other hand continued to surge for a variety of reasons, most important among them was the overvaluation of exchange rate and the persistence of large fiscal deficit fueling aggregate demand.
The new government will have to review the entire taxation policy, getting rid of the practice of withholding refund/rebate and advance tax, releasing the refunds of exporters, reviewing the whole spectrum of energy prices, adjusting exchange rate if necessary, reviewing all the Free Trade Agreements, including the one with China. In addition, instituting a permanent mechanism to interact with the private sector on regular basis will be essential for restoring their confidence.
In view of the rapidly deteriorating balance of payments situation, the new government will have to take some urgent export promotion and import compression measures which are well-documented in “A Stronger Trade Policy” by Dr Hafiz Pasha, BR/November 28, 2017.
The new government will have to prepare a strategy to enhance external flows including remittances, FDI, Portfolio investment and other non-debt creating inflows. By the time the present government leaves, the condition would be ripe to seek yet another balance of payments support from the IMF. The new government will have to decide whether to go to the IMF again or not. If they decide to seek a bailout package from the IMF, they must have a competent team to negotiate with the Fund. We must be absolutely clear that the IMF under Donald Trump administration would be different from the past.
What will be the consequences for going to the IMF in terms of overall economy? It is clear that Pakistan will be asked to implement strict stabilization policy or austerity programme. Pakistan has been pursuing this policy for the last one decade (2008-18). Such policy has suffocated the economy and kept economic growth in the range of 3-4 percent per annum, notwithstanding what our former finance minister used to get ‘desired’ growth number forcibly. Pursuing strict stabilization policy will produce similar result. The economy would not be able to create enough jobs which will further aggravate unemployment situation in the country. Income inequality and poverty would be rising which will create political problem for the new administration.
If the new government decide otherwise then they must have Plan B. This may allow them to strike a balance between stabilization and growth. Fiscal policy stance would be different, composition of expenditure will have to be drastically changed and resource mobilization effort will have to be doubled. To meet immediate balance of payments challenges, alternative sources of financing will have to be explored, taxation policy and energy prices will have to be rationalized to make our exporters competitive in international market.
Pakistan’s balance of payments situation is the mirror image of the prevailing fiscal conditions of the country. Finance minister’s accounting gimmickries have grossly understated budget deficit number since 2013-14 onward. Pakistan’s fiscal deficit has never been below 8.0 percent of GDP during the last five years. After his exit, the true picture is now emerging on the fiscal side whose adverse impact are seen in the shape of a rising imports and widening of current account deficit. Rising fiscal and current account deficits have contributed to the extra – ordinary surge in public and external debt.
How to address fiscal challenges will be the most difficult task for the new government. Will the new government dare to broaden the tax net by bringing more people and more sectors under tax net? There will be no alternative but to introduce tax reform, strengthen tax administration, rationalize tax rates, prioritize expenditure, rationalize energy prices, gradually remove subsidies, and most importantly, address the manufacturing defects of the 7th NFC Award.
We must note clearly that financial stability cannot be attained in the country in the presence of the 7th NFC Award. No government can achieve fiscal deficit less than 6 percent of GDP in the midst of the 7th NFC Award. This was a grossly ill-thought award with little or no economic foundation. This Award has sowed the seeds of perpetual macroeconomic crisis in the country. A simple example will be sufficient to prove my point.
The FBR is targeted to collect Rs 4,000 billion in the current fiscal year (2017-18) of which, Rs 2,400 billion will be given to the provinces under the NFC Award, leaving behind Rs 1,600 billion for the federal government to discharge its responsibilities. Out of Rs 1,600 billion, interest payment alone (a federal government responsibility) will consume Rs 1,400 billion and with remaining Rs 200 billion the federal government will be able to finance only 20 percent of defense spending and that’s all. How can the federal government discharge its remaining responsibilities?
The new government will have to address the issues of 7th NFC Award urgently. Otherwise, their performance will not be different from the performance of the governments that ruled Pakistan over the last one decade.
Once the new government addresses the issues of insolvency, external balance of payments, fiscal situation, NFC Award and continues to interact with private sector on regular basis, things will start improving. Key to success of the new government will depend on implementing significant reforms in taxation, expenditure, power sector, NFC Award, addressing issues pertaining to public sector enterprises (PSEs), FATF and expediting the work on CPEC-related projects. Strengthening key economic institutions with deployment of people of right quality will be vital for their success. To know where the economy stands in June 2018, it is absolutely essential for the new government to correct the statistics pertaining to fiscal, growth, unemployment and poverty. These have been corrupted deliberately to present a false sense of prosperity by the former finance minister.