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Averting default, inviting stagflation

Dr. Ikramul Haq & Abdul Rauf Shakoori

There were serious worries about Pakistan heading the way of Sri Lanka and getting into a “default-like situation,” but that seems to have been averted after significant changes were made”— Federal Finance Minister, Miftah Ismail, in a recent interview with CNBC

Though some significant macro-economic adjustments, mentioned by Federal Finance Minister, have helped Pakistan to forestall the risk of external default, but these nonetheless created disastrous effects on the local economy. Policy rate went up to 15% and inflation around 24.9% on a year-on-year (YOY) basis in July 2022. The recent tsunami of inflation is getting gigantic with every passing week and it seems like Pakistan’s economy is sliding towards the lesser experienced phenomenon of stagflation. The reasons behind this situation are multiple and the current situation is a product of increasing international commodity prices, especially oil and food, supply shocks, and the declining value of Pak rupee against the US dollar.

With recent amendments in the State Bank of Pakistan (SBP) Act 1956, the primary objective of the central bank is now to achieve and maintain domestic price stability, i.e. low and stable inflation. It is an undeniable fact that food and energy-based inflation is triggered by multiple factors like global commodity prices, local and international tariffs, duties and demand and supply mechanics. For example, the ongoing conflict between Ukraine and Russia has caused major disorders in the supply of energy and food commodities in the global markets due to which prices are moving upwards. In this scenario, SBP cannot possibly curtail rising prices.

Further on the administrative end, with enactments like the Price Control and Prevention of Profiteering and Hoarding Act, 1977, managing prices is in the domain of federal and provincial governments hence, assigning this role to SBP looks like a wild goose chase. The central bank appears to be a mere spectator in this situation which neither has the administrative paraphernalia nor has the intent to address this issue.  

The government and SBP’s feebleness can also be corroborated with recent inflation estimates by the International Monterey Fund (IMF) which mentions that “global inflation has been revised up due to food and energy prices as well as lingering supply-demand imbalances”. It is anticipated to reach 6.6% in advanced economies and 9.5% in emerging markets and developing economies this year. Whereas the inflation level estimated by the central bank is twice as high for Pakistan, the recent monetary policy statement by the State Bank of Pakistan states: “Inflation is likely to remain elevated around current levels for much of FY23 due to the large supply shock associated with the necessary reversal of fuel and electricity subsidies. As a result, inflation during FY23 is forecast at around 18-20% before declining sharply during FY24”.

It is unfortunate that to date no concrete efforts have been made by successive governments to facilitate low-income groups. The only thing worth mentioning is the flagship project ‘Benazir Income Support Program’, launched by the coalition government of Pakistan Peoples Party and Pakistan Muslim League (N) in 2008. Recently renamed, this project extends unconditional cash transfers and support packages. However, these aiding measures alone are not sufficient to combat inflation and economic woes.  A study on the State of Poverty in Pakistan by the Pakistan Poverty Elevation Fund provides statistical details claiming that in Pakistan around 22% of people live below the poverty line, out of which 5.5% can be categorized as “ultra-poor”. While 16% of the population borders the poverty line, around 20% are vulnerably poor, placed slightly above the poverty line. With such an alarming situation, the government needs to take cognizance of the fact that it cannot work as a mere tool for passing on the impacts of global and local economic tests to the common man, rather it must act as a safeguard between financial challenges and vulnerable segments.  

On the contrary, successive governments have been surrendering their administrative roles to regulators. This might sound like a progressive measure, but the fact remains that in the absence of supporting apparatus, along with technically robust and qualified human resources, most of these steps have not delivered desired results and miserably failed to exhibit a much-desired equilibrium between commercial decision-making and public interests.

The energy sector is a prime example of this saga, the State of Industry report by National Electric Power Regulatory Authority (NEPRA) for fiscal year (FY) 2021 indicts the government for its criminal negligence in the under-utilization of most efficient re-gasified liquefied Natural Gas (RLNG) power plants and some other cost-efficient power plants. The under-utilization of efficient power plants is one of the major reasons behind increased price of electricity. The report further mentions that during this period demand for RLNG had been conveyed to concerned quarters well before time.  But still, it could not get the required volume of RLNG, and resultantly, on different occasions, various RLNG power plants were either unutilized or under-utilized and reliance was placed on expensive thermal-based power plants.

Moreover, the previous government of Pakistan Tehreek-e- Insaaf (PTI) on the behest of IMF introduced amendments to the Regulation of Generation, Transmission, and Distribution of Electric Power Act, 1997 to automate the process of notifications of the tariff changes and adjustments. By virtue of this amendment introduced in 2021, NEPRA appears to be more powerful than the government, Chapter IIIB regulation 31(7) clearly states that “the Authority’s approved tariff or uniform tariff, as the case may be; rates, charges, and other terms and conditions for the supply of electric power services shall be made in the official Gazette, by the Federal Government within thirty days of intimation of the same by the Authority. In the event that the Federal Government fails to notify the tariff so determined by the Authority, or refer the matter to the Authority for reconsideration, within the time period specified, then the Authority may direct immediate application of its recommended and approved tariff or uniform tariff as the case may be, by way of notification of the same, subject to adjustment which may arise on account of reconsideration”.

The astonishing increase in energy bills is reflective of a poor power management policy that needs to be corrected urgently as it has already started taking its toll on the income of the common man and has increased the cost of doing business in the country.

The government’s recent steps which includes raising policy rate by 125 basis points to 15% and imposition of selective embargos and increasing cash margins to reduce import bill is also making the business environment challenging.  Fallout of macro-economic adjustments is reaching business groups unfiltered and there is no protective support available to them to develop any defence mechanism which can help in sustainability and ensure long-term progress.

Importers, traders, and manufacturers are facing shortage of industrial raw materials, which is causing undue disruptions and may kick-start a wave of business shutdowns and unemployment. With little hope and limited economic buffers available for immediate relief, the least government can do is to realign its policy direction in consultation with necessary stakeholders and policy experts which include adding untaxed sectors into the ambit of taxation and conducting a comprehensive cost-benefit analysis to gauge the financial viability of preferential treatment extended to few industries. This will help to reduce the burden of businesses that are currently absorbing the cost of these benefits and the government will have more funds at its disposal to spend on social protection and well-being of its citizens. ________________________________________________________________________

Dr. Ikramul Haq, Advocate Supreme Court and writer, is Adjunct Faculty at Lahore University of Management Sciences (LUMS), member Advisory Board and Visiting Senior Fellow of Pakistan Institute of Development Economics (PIDE).

Abdul Rauf Shakoori is a corporate lawyer based in the USA and an expert in ‘White Collar Crimes and Sanctions Compliance’. They have recently coauthored a book, Pakistan Tackling FATF: Challenges and Solutions with Huzaima Bukhari.    

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