SEMINAR IN ECONOMICS POLICY

 

SEMINAR IN ECONOMICS POLICY

What are the Economic challenges for Pakistan during 2012-13 and strategy to overcome them?

Economic challenges for Pakistan during 2012-13

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. Four years of misgovernance, as well as management by a weak, myopic and disjointed economic team have damaged the economy almost beyond salvage. People have lost faith, professionals are migrating, and businessmen are relocating their businesses abroad. Macro-economic indicators have been weakened to the core. The infrastructure of the country has collapsed. The Railway, PIA, Pakistan Steel and the OGDC have been destroyed. Widespread shortages of gas and electricity have badly affected industrial and commercial activities in the country. And most importantly, the poor and even the middle class are under severe pressure and finding it a challenge to maintain a reasonable standard of living.

The greatest challenge for the new government would be to meet the expectations of the Pakistani public. The people of Pakistan, especially the poor, have been living through years of high inflation, low growth, high unemployment and rising poverty. Providing relief to the burdened public by reducing inflation and maintaining price stability would be the foremost challenge for the new government.

Another challenge for the new government would be to address the issue of circular debt which has swelled to an approximated Rs500 billion. Should the new government continue to pursue a one-track policy, that is, power tariff increase or go for broad-based power sector reform? The present government has thus far pursued single-pronged strategy of raising the power tariff, and thus financing the inefficiencies and corruption of the power sector. This policy has not worked and will not work in the future either. The new government will have to undertake a wide-ranging power sector reform for which the political leadership must start working now.

The new government will have to address the fiscal issues emanating from the New NFC Award. This award is a disaster as it was a political award devoid of any economic foundation. It has sowed the seeds for perpetual macro-economic crisis in the country. No viable fiscal policy can be pursued in the presence of this award. The new government will have two options. Either to shelf the award for the remaining period or to introduce some binding constraints by provincial governments to deliver the targeted surplus.

Pakistan’s public debt has reached an unsustainable level. Addressing this surging debt burden will be another challenge for the new government. A surge in public debt over the last four years has caused interest payment to be more than double the defence and security-related expenditures. The only way to reduce the country’s debt burden is to reduce budget deficit and maintain stability in the exchange rate. A reduction in budget deficit would reduce the borrowing requirements of the government to finance deficit. It will slow down the pace of accumulation of public debt. The central bank will be able to reduce the discount rate; hence, the cost of capital would decline, encouraging the private sector to increase investment, propel growth, create jobs and reduce poverty.

Another important challenge would be to improve the availability of electricity and gas to the millions of consumers. The government will require short to medium to long-term solutions to address the energy crisis in the country. The resolution of circular debt, reduction in power theft and line losses will be critical short-run measures to improve the supply of power. Introducing power sector reforms will be the critical medium-term solution and the construction of new dams will go a long way towards solving the power shortage in the long-run.

The Asian Development Bank (ADB) has identified rising inflation, investment decline, low tax revenue and losses at public-sector enterprises as other factors hindering economic growth.

“The economy continues to be affected by structural problems, including a domestic energy crisis, a precipitous decline in investment, persistently high inflation, and security issues. Budget deficits remain high, driven by substantial subsidies and losses at state-owned enterprises, and tax revenue below target,” says the report.

The ADB sees power as the main constraint for economic growth, stressing for better load-management to minimize commercial losses.

The report adds: “Losses arising from power and gas shortages held down GDP growth by 3–4 per centage points in FY2011 and FY2012. Improved management of power resources could ameliorate predictability of load-shedding to allow the private sector to better schedule work and minimize costs.”

“For every unit of power sold, there is a loss to the sector reflected in the form of subsidies. An outstanding accumulation of PRs220 billion was carried into FY2012, and an additional financing of 1–1.5% of GDP is likely to be required in FY2012.”

Furthermore, the ADB advises reforms in not only the energy sector but also state-owned enterprises, naming Pakistan Railways, Pakistan International Airlines (PIA), and Pakistan Steel Mills as entities suffering the steepest of losses.

“The challenge of improving efficiency and putting these enterprises on a viable commercial footing is formidable. Reforms are needed, including a separation of these enterprises from operational interference by government ministries,” advises the ADB.

The outgoing year has also seen millions slipping below the poverty line with the government not releasing basic data to measure poverty and inequality in fear of being castigated for propelling millions below the poverty line, the education and health system deteriorating further, the country’s infrastructure crumbling, fiscal indiscipline persisting, the public sector enterprises (PSEs) bleeding and the country’s debt burden rising.

The year 2011 also saw the business environment deteriorating, foreign investment nose-diving, exchange rate depreciating and contributing to inflationary build up, foreign exchange reserves depleting, industrialists relocating their industries abroad, electricity and gas shortages aggravating, relations with international financial institutions including the IMF deteriorating, bonanza of three fold increase in cotton prices evaporating and exports growth turning negative, mysterious growth in remittances continuing, and most importantly, economy remaining off the radar screen of the government.

The most important and painful development of 2011 has been the excessive reliance on non-tax revenue for resource mobilisation. The economic team has resorted to a senseless taxation on petroleum products and gas to generate additional resources in the shape of Petroleum Development Levy (PDL) and gas development surcharges. Three factors have motivated them to take senseless measures. Firstly, the new NFC award has diverted a bulk of federal government resources to provinces at a time when they needed more resources to finance growing interest payments, security-related expenditures, bailing out the rotten PSEs, and paying Wapda/Pepco to finance their inefficiencies.

Secondly, admitting its failure to reform the taxation system and broadening tax bases to generate more tax revenues, the economic team has chosen an easy way out by taxing petroleum products and gas. It is much easier to tax and easy to collect and most importantly the revenue so generated is not part of the divisible pool and hence remains with the federal government. I have been stating time and again that the new NFC award was a disaster for the economy. By resorting to senseless taxation, the economic team has indirectly lent credence to my views on the NFC award.

Thirdly, petroleum products are doubly taxed: exchange rate depreciation has increased the landed cost of oil and PDL is levied on inflated base to mobilise more resources. Over 38 percent of FBR receipts originate from the petroleum sector which includes PDL, customs and sales tax at import and domestic stages. The development of 2011 is going to further enhance its share in FBR receipts.

The economic team knows very well that such a senseless taxation will fuel inflation, raise the cost of doing business, and hurt the poor and even the middle class the most, and yet they continue to pursue such policy with great vigour and fervour.

Pakistan’s economic conditions are likely to deteriorate further in 2012 for the following reasons. Firstly, political uncertainty is expected to touch the peak with adverse consequences for the economy. Secondly, as reports appearing in the press suggest, the year 2012 is likely to be an election year. Fiscal indiscipline, which has been the hallmark of the government, is expected to proliferate further. Resource mobilisation through taxation will take the back seat and reliance on non-tax revenue would increase further. Expenditure is expected to rise further with budget deficit likely to be in the range of 6.0-6.5 percent of GDP.

Thirdly, economy will remain out of the focus of the political leadership. Fourthly, energy shortage (electricity and gas) is expected to aggravate further and fifthly, politics is likely to dominate economics with a vengeance.

Based on the above assumptions, economic growth is expected to follow the trend growth of the last four years (3 percent), domestic investment is not expected to pick up in the midst of deteriorating business environment, and unemployment and poverty are likely to rise further. Inflationary pressure is expected to rise on account of senseless increase in government administered prices. External balance of payments is expected to come under pressure on account of flat or even negative exports growth, surge in payment to the IMF, strained relations with the IMF, and declining debt and non-debt creating inflows.

Exchange rate is already under pressure and expected to lose further ground in 2012 owing to the worsening of the balance of payments and declining foreign exchange reserves. Foreign Direct Investment is likely to continue to witness a sharp decline in 2012 as well. Pakistan’s public debt is likely to worsen on account of large fiscal deficit and sharp depreciation of exchange rate.

In short, 2012 will be worse than the previous four years. Poor governance and senseless economic policies have already damaged Pakistan’s brand abroad. The economy is going nowhere with no roadmap for the future either. The people of Pakistan have paid a heavy price for economic misgovernance and the country’s national security is at stake. May God bring peace, stability and prosperity in Pakistan in 2012.

Strategies to overcome the Economic challenges for Pakistan

Pakistan is currently facing near and long-term economic challenges that have caused a long and harsh winter to bring about a stagnating economy and forestall economic growth and prosperity. The short-term economic challenges pivot upon restoring fiscal discipline, maintaining price stability and promoting economic growth. Addressing the fiscal policy challenge that has emerged after the New NFC Award has been identified as another near term economic challenge.

How to remove constraints to economic growth is the single most significant medium-to-long-term economic challenge facing the country. Ways to overcome constraints to economic growth include addressing energy bottlenecks (gas and electricity), making it easy for private businesses to grow, improving human capital, strengthening the country’s physical infrastructure, reforming the tax system and tax administration, and building a robust financial system. Misgovernance, corruption and opaque economic policy-making are yet other constraints to economic growth that will have to be addressed in the medium-to-long-term period.

Reviving the economy will require addressing both near and medium-to-long term economic challenges. The solution to these challenges boils down to restoring macroeconomic stability on the one hand and promoting economic growth through growth critical reforms on the other.

Let me share my thoughts on these economic challenges. For addressing near term economic challenges, the commitment to fiscal discipline is a pre-requisite. A sound fiscal position is essential to achieving macroeconomic stability, which is increasingly recognised as a critical ingredient for promoting strong and sustained economic growth and lasting poverty reduction. An adequate level of revenue generation is sine qua non for the public policy to fulfil growing expenditure requirements.

The thrust of revenue mobilisation must include reducing tax rates, broadening the tax base, shifting the incidence of taxes from imports and investments to consumption and incomes, and providing a congenial environment to increase tax compliance. Every sector of the economy must be brought under the tax net. An equitable taxation system demands that income originating from any sector, if it crosses the threshold level, must be taxed.

Potential areas which can be brought under the direct tax net include agricultural income, incomes of doctors, lawyers, beauty parlours, chartered accountants, wholesalers and retailers and transporters to name a few. Improving withholding tax regime would increase the government’s tax revenue immensely. Taxes are being collected by withholding tax agents but are not being deposited in the government’s treasury. I am glad that the FBR has taken note of this and is making efforts to address this issue.

On the expenditure side, the government will have to take a bold decision as to the future of the rotten PSEs. In particular, how long can the government bail out these bleeding institutions from taxpayer money? The time has come to offload some of them even at a rupee each and appoint the best team available to manage the others. The government can save at least over Rs300 billion which can be spent on millions of defenceless poor and improving the country’s physical and human infrastructure.

Inept handling of the power sector has resulted in the accumulation of unsustainable circular debt. By raising the power tariff alone, the government has caused circular debt to balloon. Raising the power tariff is tantamount to raising tax rates. It is common knowledge that if we keep on increasing tax rates people will avoid paying taxes. Similarly if we keep on raising power tariffs it will encourage people to use unfair means to avoid paying electricity bills. As long as there are line losses and power theft, the issue of circular debt will always be there.

The government will have to reduce fiscal deficit from 6.5 percent of GDP last year (2010-11) to three percent by 2013-14. This can be achieved, provided there is commitment to fiscal discipline. Reduction in fiscal deficit will reduce the government’s borrowing requirements which in turn will help the SBP to reduce interest rate thereby freeing more credit for the private sector. This would also help the government to lessen its borrowing from the SBP and to moderate inflation.

Restoring fiscal discipline would help maintain price stability provided the government maintains moderation in enhancing government administered prices such as support price of wheat, and power and gas tariffs. Mobilising more resources through taxation on POL products would not help in reducing inflation. Thus, reducing budget deficit, moderation in government administered prices and maintaining exchange rate stability would be critical to bringing inflation down to a single-digit.

The new NFC Award has created structural issues for Pakistan’s fiscal policy. The acknowledgement of this debacle would be the first step in finding solutions. How to save this NFC Award and hence restore fiscal discipline is an important near term issue. One way to address this problem is to put some binding constraints on the provincial governments over the generation of a targeted surplus in their budgets. Let this be a time bound solution, perhaps for the next three to five years, and in the meantime let the provincial governments improve their own taxation and build capacity to spend money prudently.

Whether a weak government can undertake the above-mentioned policies to address near term economic challenges is a difficult question to answer but it can surely make a start by addressing the most pressing challenges. How to address the medium-to-long term economic challenges will be discussed in my next article.

LAHORE: Lord Nazir Ahmed has said that the economic challenges faced by Pakistan require out-of-box solutions and a proactive private sector role, therefore, the business community should come forward and join hands with their global counterparts.

Ahmed was talking to a 37-member Lahore Chamber of Commerce and Industry (LCCI) delegation, headed by LCCI President Irfan Qaiser Sheikh. The other prominent members of the delegation included former LCCI senior vice presidents Engineer Sohail Lashari and Tahir Javaid Malik, executive committee members Khawaja Shahzeb Akram, Khawaja Khawar Rashid, Fahimur Rehman Saigol, Chaudhry Wajid Ali.

Ahmed said that it was the private sector that has all the abilities to do miracle in these difficult times when most of the economies in the world are facing various types of challenges. He said that only those countries are performing well where the private sector is playing its role properly and has little reliance on public sector.

He said that there are many sectors of the UK economy where Pakistani businessmen could get a fair share but to achieve the objectives they would have to adopt modern business techniques and methodologies.

He said that the Pakistani expatriates are ready to facilitate their Pakistani brothers who intend to do business in the United Kingdom. Ahmed while throwing light on bilateral trade relations stressed the need for utilising modern techniques to increase the existing business volume between Pakistan and the UK.

He said that the Pakistani businessmen should take advantage of the potential and the expertise of a large number of Asians especially Pakistanis living in the United Kingdom.

He said that Pakistanis are second to none in the world as far as the talent is concerned but their abilities and energies need to be channelized to achieve the progress and prosperity.

Speaking on the occasion, LCCI president said that the LCCI is a great supporter of trade diplomacy and believes that it can be of great help in paving the way for further strengthening the bilateral economic relations.

He urged Ahmed to motivate UK investors to take Pakistan as a lucrative destination for investment.

The LCCI president said that in Pakistan, there are a lot of investment opportunities for UK businessmen in various sectors like telecommunications, information technology, financial services, petrochemicals, livestock, dairy, consumer goods, food processing, pharmaceuticals, minerals, and particularly in energy sectors.

“Despite facing some tough circumstances, there are some positive indicators prevailing in Pakistan as our economy is growing at around 3.5 percent to 4.0 percent, our exports increased to the record level of $25 billion, law and order situation has significantly improved and inflation has been checked. All these positives must be considered by the UK-based investors to evaluate Pakistan as the next destination for investments.”

The LCCI president said that the business community always appreciates the UK government for supporting its market access to the European Union. Sheikh said that the presence of different multinational companies from UK, which are growing and doing well in Pakistan is evident from the fact that there are ample opportunities and potential for UK investors for business in Pakistan.

The LCCI delegation has in its fold businessmen belonging to almost all sectors of the economy including petrochemicals, steal, industrial chemicals, cosmetic raw material, pharmaceuticals, textiles and its machinery, auto, plastic, artificial leather, plastic chemicals, construction, used machinery, tourism, engineering, oil and lubricants, Halal meat, yarn, rice, handicrafts, heating and cooling equipment, household products, garments and real estate.

Speaking at the Lahore Chamber of Commerce and Industry on Wednesday, Farooq Sattar said that the country at the moment was facing multiple challenges and the economic crisis was on the top of the list.

Therefore, he said, the government would have to come up with out-of-box solutions.

He said it was not only the economic recovery that was direly needed at this point but measures are needed to make it sustainable for years to come.

He said the cost of doing business would have to be brought down for making Pakistani goods competitive in the world market.

He suggested an increase of Rs400 billion in direct taxes to deal with the challenge of fiscal deficit.

He said he had proposed a reduction of 10 per cent in defence budget and a sizeable cut in civil expenditure to overcome
prevailing economic challenges.

The additional collection of Rs400 billion included Rs100 billion through agriculture income tax, Rs50 billion through Afghan transit trade, checking under-invoicing and smuggling Rs50 billion and raising another Rs50 billion by tax on
agricultural trading.

“Improvement in monitoring, broadening the tax base and elimination of tax-evasion due to corruption would generate another Rs200 billion. Direct taxes are proposed to be increased from existing 32 per cent to 45 per cent and indirect taxes are proposed to be brought down to 55 per cent in the next fiscal year from 68 per cent.”

He also proposed abolition of petroleum levy.

LCCI president Irfan Qaiser Sheikh said that focus in the 2012-13 budget should be on energy sector as country’s economic revival hinges on availability of cheaper and uninterrupted power and gas supply.

To tackle energy shortages, the government would have to allocate maximum funds for construction of dams or water reservoirs, tapping of Thar Coal, completion of Iran-Pakistan gas pipeline and establishment of LNG terminals.

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