2020: main fiscal challenges

Huzaima Bukhari & Dr. Ikramul Haq

“An unusual decline in revenue collection and steep rise in current expenditures caused a deterioration in all major fiscal indicators during FY19. The overall budget deficit during the year stood at a historic high of 8.9 percent of GDP, which was also in excess of the 4.9 percent target set in the Budget 2018- 19. Meanwhile, the primary and revenue balances worsened substantially, highlighting growing debt stress for the government and a shrinking space for the needed development expenditures”—State Bank of Pakistan, Annual Report 2018-19—The State of Pakistan’s Economy

A tax gap analysis recently completed by the World Bank indicates that Pakistan’s tax revenue would reach 26 percent of GDP if tax compliance were raised to 75 percent—World Bank $400 million Pakistan Raises Revenue Project

The two most challenging areas of our fiscal management are debt servicing and high government expenditure. In 2018 and 2019, expenditure amounted to over 21 percent of GDP. On account of debt servicing in FY 2018, actual expenditure was Rs. 1987 billion against the budgeted figure of Rs. 1620 billion. Allocation for the current fiscal year is 2891 billion, 78% higher than last year! Even if Federal Board of Revenue (FBR) collects Rs. 5000 billion against originally fixed target of Rs. 5503 billion, after share of provinces under 7thNational Finance Commission (NFC) Award, net tax collection available to the federal government will be around Rs. 2400 billion, that would be short by Rs. 491 billion for debt servicing of Rs. 2891 billion alone!! This shows the gravity of the fiscal crisis faced by the federal government.

The historic high fiscal deficit of 8.9% of GDP for Fiscal Year 2018-19, posed enormous challenge for the Government of Pakistan Tehreek-i-Insaf (PTI) on assumption of power. It also inherited record public debt, trade and current account deficits. The callous and imprudent economic policies of Pakistan Muslim League (Nawaz) [PMLN] from 2013 to 2018 left the PTI Government with no choice but to seek yet another bailout from the International Monetary Fund (IMF) and resort to massive rupee devaluation along with austerity measures as well as high interest rate to counter riding inflation—all this lead to what many categorized as stagflation.

There are many economists who are critical of IMF’s conditions, but the PTI’s economic team and Governor State Bank say these are working positively as the results of IMF’s prescriptions within a few months, trade deficit fell from $11.7 billion from July-October of FY18-19 to $7.8bn during the same period this year and current account deficit dropped to $1 billion a month (in FY19) compared to $2 billion a month last year. Critics say despite high interest rate, inflation remained in double digit and hit record of 12.28% in November of 2019 from 11.08% in October and public debt witnessed unprecedented surge hitting the level of Rs. 36 trillion.

Perpetual failure of FBR to meet assigned targets is not something new. In 2018-19, it was assigned the target of Rs. 4435 billion that was later reduced to Rs. 4013 billion and then to Rs. 3935 billion. FBR collected only Rs. 3828.5 billion which was 0.4% lesser than the collection of 2017-18. This year target of Rs. 5503 billion is an uphill task and there is news of its downward revision very soon. Every year, FBR fails to collect downward revised target what to speak of originally assigned figure in the budget estimates. This widens fiscal deficit resulting in more borrowing and cutting away large part of the budget for debt servicing.

It is an undisputed fact that FBR has not only miserably failed [see table] to tap the real tax potential despite imposing all kinds of oppressive taxes, it  has been single handedly destroying Pakistan’s growth by anti-business actions especially during 2013-18. The then Finance Minister gave free hand to tax officials to block bona fide refunds, take undue advances from large business houses, use negative taxes like raising unjust demands and freeze bank accounts for recovery. Exporters and other taxpayers, still waiting for refunds, have been denied lawful right of payments/compensation within stipulated time. Had we concentrated on growth above 6%, as done by China, India and even Bangladesh in the region, we could have avoided the present fiscal and economic mess. Higher growth yields higher taxes and harsh taxation only hampers business expansion.     

SBP in its ‘Annual Report 2018-19—The State of Pakistan’s Economy’ has rightly criticised the provinces for what it called “lack of institutional capacity” giving rise to “lower revenue collection that contributed less to tax-to-GDP ratio and fiscal consolidation efforts”. The report further noted that “an important agenda on fiscal reforms should be the capacity building of the provincial authorities, which are responsible for mobilising revenue via the agriculture income tax, sales tax on services and property taxes, and carrying out crucial spending on important sectors like education, health, social spending and regional infrastructure”. It is observed in the report that even after nine years of the passage of the 18th Constitutional Amendment, “the provinces still seem to lack capacity to adequately assume these responsibilities”.

The SBP in its report has failed to mention that in Pakistan the privileged classes pay no or meagre taxes on their collossal incomes and wealth but the poor are subjected to all kinds of oppressive taxes. Adding insult to injury, they get nothing in return—even deprived of protection to their lives and property, what to speak of basic facilities of health, education, transport and housing.  

For fiscal year 2018-19, the SBP appreciated the provinces for adhering to a better fiscal discipline as they cumulatively posted a surplus of Rs 190 billion, compared to a deficit of Rs. 17.5 billion in fiscal year 2017-18. However, this surplus fell short of the target of Rs. 285.6 billion. It is a bitter reality that after the 7th NFC Award, both the federal government and provinces failed to observe strict financial discipline. Monstrous size of governmental departments is causing colossal wastage of resources. The governments are spending recklessly, a tendency that continues under civilian and military regimes alike since the last many decades.

FBR’s performance (1996-97 to 2018-19)

(Rs. in billions)

Year	Targets	Collection	Growth in Collection (%)	Target Achieved (%)	Tax to GDP ratio	Ratio in total taxes (%)
						Indirect taxes	Direct taxes
1996-97	286.0	282.1	5.2	98.6	11.6	69.8	30.2
1997-98	297.6	293.6	4.1	98.7	11.0	64.9	35.1
1998-99	308.0	308.5	5.1	100.2	10.5	64.3	35.7
1999-00	351.7	347.1	12.5	98.7	9.1	67.5	32.5
2000-01	406.5	392.3	13.0	96.5	9.3	68.2	31.8
2001-02	414.2	404.1	3.0	97.6	9.1	64.7	35.3
2002-03	458.9	460.6	14.0	100.4	9.4	67.0	33.0
2003-04	510	520.8	13.1	102.1	9.2	68.3	31.7
2004-05	590	590.4	13.4	101.8	9.1	68.9	31.1
2005-06	690	713.4	20.8	103.4	9.4	68.5	31.5
2006-07	935	847.2	18.8	101.5	9.8	60.6	39.4
2007-08	1.000	1008.1	18.9	100.8	9.8	61.5	38.5
2008-09	1,179	1157.0	14.8	98.1	8.9	61.8	38.2
2009-10	1,380	1327.4	14.7	69.0	9.0	60.4	39.6
2010-11	1,667	1587.0	19.6	95.2	8.8	61.3	38.7
2011-12	1952.3	1883.0	18.2	96.5	9.1	60.8	39.2
2012-13	2007	1939.4	03.0	96.6	8.5	61.8	38.2
2013-14	2275	2254.5	16.0	99.0	8.8	61.1	38.9
2014-15	2810	2589.9	13.0	92.2	9.2	60.1	39.9
2015-16	3103.7	3112.4	20.2	100.3	9.6	60.9	39.1
2016-17	3621	3367.8	8.0	92.9	9.8	60.1	39.9
2017-18	4013	3842.1	14.1	97.6	10.4	60.0	40.0
2018-19	4435	3828.5	-0.4	86.3	10.2	62.5	37.7

Source: Economic Surveys, State Bank Data & FBR Year Books

According to Economic Survey 2018-19, during the last five years, total revenue as percent of GDP on average reached to 14.9 percent, whereas it stood at 15.1 percent in FY2018. The total expenditures as percent of GDP on average reached 20.5 percent, while during the FY2018—it was the highest at 21.6 percent. Resultantly, fiscal deficit on average stood at 5.5 percent, while during the last year it was recorded at 6.5 percent. In FY2016, fiscal deficit was brought down to 4.6 percent of GDP but the low trajectory could not be maintained and increased to 5.8 percent and 6.5 percent during FY2017 and FY2018, respectively.

The performance of fiscal indicators shows that total revenue growth experienced a slow down (5.9 percent in FY2018 against 11.0 percent growth in FY2017), while, total expenditure growth was contained at 10.1 percent in FY2018 as compared to 17.3 percent in FY2017.

The net revenue receipts for 2018-19 were estimated at Rs 3,070.4 billion, which decreased to Rs 2,569.0 billion or by 16.3% in revised estimates 2018-19. The provincial share in federal revenue receipts was estimated at Rs 2,590.1 billion during 2018-19, which decreased to Rs 2,462.7 billion or by 4.9% in revised estimates.

The overall expenditures during 2018-19 were estimated at Rs 5,932.5 billion, out of which the share of current expenditure was Rs 4,780.4 billion. Current expenditure in revised estimates 2018-19 showed an increase of Rs 809 billion from budget estimates. After the share of Provinces in gross revenue is transferred, the net revenue receipts of Federal Government were at Rs 3,070,439 million in the budget 2018-19, which later revised downwards to Rs 2,568,977 million in the revised estimates 2018-19 showing a decrease of 16.3%.

The budget estimates 2018-19 of the overall expenditure were Rs 5,932,463 million, which increased to Rs 6,419,111 million in revised estimates 2018-19 or by 8.2%. Current expenditure: Rs. 7. 288 trillion (FY 2019-20) showing an increase of 52.5% and 30.4% in budget and revised estimates respectively of the fiscal year 2018-19.

Within development expenditure, total Public Sector Development Program (PSDP) expenditures posted a negative growth of 7.7 percent in FY2018 and stood at Rs 1,456.2 billion as compared with Rs 1,577.7 billion (growth of 33.1 percent) recorded in FY2017.

Federal PSDP (net excluding development grants to provinces) spending witnessed negative growth of 20.6 percent (Rs 576.1 billion) in FY2018 against growth of 22.3 percent (Rs 725.6 billion) in FY2017. Provincial PSDP registered a growth of 3.3 percent in FY2018 compared with 43.8 percent in FY2017. Non-tax revenue decreed to Rs. 427.3 billion in FY 19 from Rs 760.9 billion in FY 18.

Total Revenues of all provinces in FY 19 were Rs. 2995.9 billion [in FY 18 it was Rs. 2,938.5 billion] out of which share from federal taxes was Rs. 2397.8 billion [in FY 18 it was Rs. 2,217.4 billion]. Total revenues of all provinces were Rs. 488.1 billion [in FY 18 it was Rs. 548.1 billion], out of which taxes were of Rs. 401.8 billion [in FY 18 it was Rs. 401.4 billion]. Total expenditures of all provinces were Rs. 2,857 billion [in FY 18 they were Rs. 2,960.9 billion] of which current expenditure were Rs. 2350.8 billion [in FY 18 it was Rs. 2,080.7 billion]. This shows that our real issue is high current expenditure of both the federal and provincial governments.

It also needs to be highlighted that the performance of provinces in collecting agricultural income tax is extremely appalling. After 18th Amendment, right to levy wealth tax, capital gain tax on immovable property, gift tax, inheritance tax etc is with provinces but they are not ready to levy such taxes on the rich and mighty. This is a common issue both at federal and provincial level arising from absence of political will to collect income tax from the rich classes—the meagre collection of agricultural income tax—less than Rs. 2 billion by all provinces and the Centre in fiscal year 2018-19—is lamentable.

We need to formulate a rational economic/tax policy aimed at incentivising investment, encouraging savings and facilitating capital formation in the private sector for job creations, innovations and rapid economic development. Our policymakers have miserably failed to achieve these goals—for them taxation means raising more money and nothing else. Overemphasis on regressive taxation by the successive governments could not avert record fiscal, trade and current account deficits. For achieving fiscal stabilization/consolidation in Pakistan, it is imperative that right to levy tax on income, including agricultural income, should be given to the federal government. In return, the federal government should hand over sales tax on goods to the provinces as was the case before independence. There should be single tax agency to collect all taxes—it alone can generate sufficient funds for the federation and federating units. The share will be distributed as per Constitution and provinces are wrongly opposing it as centralisation of taxation. It is in fact federalisation of tax collection in the wake of 18th Constitutional Amendment. The detail discussion is available in ‘Overcoming fragmented tax system’, Business Recorder, October 19, 2018 and ‘Case for All-Pakistan Unified Tax Service: PTI & innovative tax reforms, Business Recorder, August 31, 2018.   

The flawed economic policies of PMLN, amongst others, reckless borrowing, huge wasteful expenses, higher collection figures through heavy taxation on imports, no measures for export-led growth, rather anti-export actions of Ishaq Dar, especially blocking of refunds of exporters, and regressive taxation damaged the economy and we witnessed record trade and current account deficit coupled with fiscal deficit of 8.9% of GDP in 2018-19. The last fiscal year was a disaster as highlighted by State Bank in Annual Report 2018-19—The State of Pakistan’s Economy. The result is stagflation. One hopes this trend will be reversed in 2020 as positive signs on all macro-economic fronts are now emerging.

The Government of PTI is claiming to have been taking the right steps/measures/policies to put the country back to higher growth path in the coming years after achieving stabilisation and overcoming the chronic challenges on external front inherited from the previous government. Let us all pray and work for a prosperous Pakistan in 2020 and beyond. We can resolve all the irritants in the way of rapid progress and increasing local and foreign investment by open public debate and not seeking inputs from the bureaucrats alone sitting behind closed doors, through rational policies and pragmatic decisions based on research suggesting solutions and taking all the stakeholders on board. There is no dearth of experts and worthwhile studies. The only shortcoming is that we are not trying to implement the same after due consideration and meaningful consultation with all the concerned parties.  

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The writers, lawyers and partners in Huzaima, Ikram & Ijaz, are Adjunct Faculty at Lahore University of Management Sciences (LUMS)