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Huzaima Bukhari & Abdul Rauf Shakoori
The coalition Government of Pakistan Tehreek-i-Insaf (PTI), owing to lack of control and indecisiveness, reached the brink of a severe fiscal crisis in 2019. Prime Minister of Pakistan, Imran Khan, despite all the tall claims of not opting for the International Monetary Fund (IMF) programme, travelled to the United Arab Emirates to meet the IMF’s Chief and assured her about his government’s commitment for undertaking structural and governance reforms. Responding to the rescue call, the IMF approved a programme for Pakistan in July 2019, through which the crisis was averted and the PTI government managed to partially stabilize the economy.
Accordingly, IMF’s Executive Board approved the U.S $6 billion Extended Finance Facility (EFF) for Pakistan. Since then, the IMF-Pakistan relationship has moved through different phases where at times the disbursement was delayed due to non-performance of commitments by Pakistan. These delays reflected badly on the economy of Pakistan. The condition of the IMF’s programme along with a letter of intent signed by Dr. Abdul Hafeez Shaikh, Advisor to the Prime Minister of Pakistan, and Reza Baqir, Governor of the State Bank of Pakistan (SBP) required Pakistan to undertake numerous strategic, technical, and transactional changes. However, upon different review intervals, Pakistan failed to initiate the reforms as agreed.
IMF has always emphasized maintaining a prudent monetary policy, which should be reflective of real interest rates, rebuilding external buffers through natural means like bolstering exports and at the same time allowing exchange rate flexibility. This is because previously the exchange rate was allegedly managed through significant forex interventions, which naturally contributed to imbalances on the external front. In parallel, interest rates were kept low to support the local economy and growth. However, it triggered consumption and import-driven growth, which added fuel to external imbalances and governments’ reliance on local and international borrowing channels.
Currently, Pakistan is facing a challenge on account of internal and external debts that are piling up and in Fiscal Year (FY) 21, they mounted to 100.3% of Gross Domestic Products (GDP). Pakistan’s gross external financing needs in FY 23 & FY 24 are estimated to be around US$ 77 billion and with deteriorating current account balance, the situation is getting more complicated. For this Pakistan needs to work on increasing its exports, to explore new markets and must focus on adding technological advancements. Currently, the goods offered by Pakistan remain at the southern end of the global value chain. Though Pakistan has signed Free Trade Agreements (FTA) with a few countries such as China, Sri Lanka, and Malaysia, and has preferential trade agreements with Iran, Indonesia, and Mauritius, yet except for China, not one country falls in the category of main importers of Pakistan’s products. According to IMF report, in FY 2021 trade with the United States, United Kingdom, Afghanistan, and Germany comprised about 37% of total exports, while those to the three FTA markets was only around 10%. Entering FTAs with major export market destinations can boost Pakistan exports reducing external imbalances. It is pertinent to mention that, after a recent IMF staff review, the Government has agreed to assess Export Refinancing Scheme (EFS) by end of this month, and this might pose new challenges for export-oriented industries. IMF has also raised concerns over refinancing schemes offered by SBP to address long-standing large credit gaps and market failures and has warned that this expansion, if not temporary, would undermine its efforts to credibly implement monetary policy to achieve its primary objective, and improve monetary policy transmission channels.
To add efficiency to its domestic financial operations, Pakistan needs to ensure that the energy sector is working in a financially viable way, for which addressing the circular debt issue and strengthening the applicable regulatory framework is paramount. High transmission losses and low recoveries hamper payments to power companies which is a major cause for accumulation of circular debt that is alarming not only for the power sector but for the whole economy. As of June 2021, the circular debt reached a historic high level of Rs 2.3 trillion. Such inefficiencies in power generation, transmission and distribution, and non-payment of subsidies in a timely manner are the main causes of increase in circular debt. In parallel, a new phenomenon of gas sector circular debt has emerged. IMF estimates provided in IMF Country Report No. 22/27 dated February 2022, warn that circular debt in the gas sector peaked at Rs. 654 billion at the end of June 2021 (Rs. 554 billion in system gas arrears and about Rs. 100 billion in regassified liquefied natural gas arrears).
The constant bleeding of scarce resources in the hands of inefficient and loss-making State-Owned Enterprises (SOE’s) is also a great concern. SOEs in Pakistan have a significant market presence particularly in key service sectors like power generation and distribution, energy, aviation, and railways. The recent State-Owned Enterprises Triage report provides a snapshot of the federal SOE landscape. It states that as of FY 2019, there are 213 SOEs, out of which only 85 have commercial operations (18 financial and 67 non-financial). The overall revenues of all these SOEs in 2018-19 were recorded as Rs. 4 trillion that is roughly 10% of nominal GDP. These SOEs employed more than 450,000 people which constitutes around 0.8% of the total workforce. The financial performance of several SOEs has remained worrisome, and in 2018-19, commercial SOEs collectively recorded net losses of Rs. 143 billion.
The government must go for restructuring state-owned entities to minimize the state’s burden of funding these huge loss-making ventures. Their privatization is the only viable option for modernizing and revamping these institutions. It would generate more employment and more tax revenues for the government otherwise, the state would be left at the mercy of global lenders who propose and impose policies of their interest with no consideration for challenges faced by the common man.
The recent resumption of the EFF indicates that the government has undertaken aggressive revenue measures by introducing amendments in indirect tax legislation by moving most goods from zero-rating (5th Schedule items) or reduced rates (8th Schedule items) to the standard sales tax rates by eliminating many exemptions listed under Sixth Schedule to the Sales Tax Act, 1990.
The Finance Minister Shaukat Tareen has also expressed the government’s intent of increasing petroleum levy (PL) which is expected to help in bridging the revenue deficit. As per the recently published IMF staff report, in early November, the authorities started to gradually increase PL in gasoline and diesel by Rs. 4 per/liter, with a further Rs. 4 per/liter in December, and the government will continue to increase the levy by Rs. 4 per/liter per month until a maximum of Rs. 30 per/liter is achieved. The global lender has also emphasized sales tax harmonization. Currently, services are subject to provincial taxation and goods fall under the purview of federal sales tax. This dichotomy has created several compliance issues for taxpayers and administrative problems for taxation authorities. Further, in terms of direct taxation, the IMF staff reports indicate that Pakistani authorities are in the process of drafting Personal Income Tax legislation for next financial year i.e., FY 22-23, which aims at reducing the number of rates, income tax brackets, tax credits and allowances.
After swallowing all these bitter pills and consenting to “aggressive reform measures” Pakistan has now completed the sixth review of EFF and granted earlier withheld $1 billion tranche. Pakistan has now obtained US $3 billion from IMF under the current programme with $3 billion to be issued subject to successful completion of the remaining reviews. These commitments are expected to attract a wave of taxes and duties, which can make the common man’s life more challenging. The government must achieve equilibrium in a way that its revenue objectives are met without being regressive to a common man and this can be done through introducing economic reforms focusing on privatization and exploration of new avenues for taxation. Taxing the already taxed to grab maximum revenues is not serving any purpose, rather adding to miseries in the life of the less-privileged.
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Huzaima Bukhari, Advocate High Court & Adjunct Faculty at Lahore University of Management Sciences (LUMS), is 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 Dr. Ikramul Haq