IMF finds very little right with Pakistani economy, prescribes very ambitious remedies

In a report regarding the IMF's $6 billion aid to Pakistan, the agency said Imran Khan needs 'very ambitious' fiscal measures for the bailout to succeed.

Pakistan Prime Minister Imran Khan | Asad Zaidi/Bloomberg

New Delhi: A weak tax administration, a difficult business environment, inefficient and loss-making state-owned enterprises, and low labour productivity amid a large informal economy: The International Monetary Fund (IMF) has painted a dim picture of the Pakistan economy while outlining some “harsh” steps needed to rein in the situation.

In a report regarding the IMF’s $6 billion bailout for Pakistan — the 13th since the late 1980s—the multilateral agency said the Imran Khan government would need to implement “very ambitious” fiscal measures for the bailout to succeed.

ThePrint looks at the IMF report, which was published Monday, and its analysis of the Pakistani economy.

‘Series of macroeconomic and monetary policy blunders’

While the Pakistani economy grew at about 5 per cent over the past five years, the report notes, this growth came on the back of a “consumption- and import-driven growth strategy”.

According to the report, a series of “misaligned economic policies” was responsible for Pakistan’s recent balance of payments (BoP) crisis. These policies left Pakistan with a meagre $8 billion in foreign exchange reserves, which are sufficient to meet only 1.7 months of imports.

“Misaligned economic policies, including large fiscal deficits, loose monetary policy, and defense of an overvalued exchange rate, fueled consumption and short-term growth in recent years, but steadily eroded macroeconomic buffers, increased external and public debt, and depleted international reserves,” the report states.

Owing to the government’s procyclical fiscal policies—more government spending during booms, less during recessions—Pakistan’s fiscal deficit has climbed up to 6.5 per cent of the GDP, “2.5 per cent of GDP higher than budgeted”, the report notes.

This has led to a rise in public debt and current account deficit to nearly 75 per cent and 6.3 per cent of the GDP, respectively.

The worsening of all macroeconomic indicators has eroded the confidence in the economy, resulting in a slowdown. This slowdown was visible in the deterioration of several high-frequency indicators such as “large-scale manufacturing index, domestic cement dispatches, and motor vehicle sales”, the report notes.

‘Structural problems persist’

Beyond the policy mistakes made over the past few years, the Pakistani economy continues to be plagued by a set of deeply-entrenched structural issues, the IMF has noted.

“Structural weaknesses remained largely unaddressed, including a chronically weak tax administration, a difficult business environment, inefficient and loss making SOEs, and low labour productivity amid a large informal economy,” notes the report.

The report says that Pakistan’s fiscal deficit for 2019 is expected to widen to 7 per cent of the GDP “against a budget target of 5.1 per cent in FY 2019”.

“This deterioration is largely driven by a significant revenue shortfall, equivalent to 1.4 per cent of GDP relative to the budget target,” the report says.

Pakistan suffers from an inexplicably narrow tax base — where only 1 per cent of adults are believed to be taxpayers. As a result, at 13 per cent, the country has one of the lowest tax-to- GDP ratios in the region, the report adds.

According to the IMF, the Pakistan government’s revenue shortfall was further exacerbated by a “three-fold increase of personal income tax thresholds… stalled collection of withholding taxes on mobile services due to Court decisions… and losses from Petroleum Development Levy (PDL) and sales tax on petroleum products”.

Moreover, vital sectors such as power and inefficient SoEs have caused the government to bleed further, the report states.

Through 2018-19, the arrears steadily rose in the power and gas sector. Meanwhile, according to the report, losses in “the three largest state-owned enterprises (Pakistani International Airlines, Pakistan Steel Mills, and Pakistan Railways) 
have continued to accumulate, now totaling over 2 percent of GDP.”

IMF adjustment programme

The IMF has a series of prescriptions for the Pakistani economy.

It talks about an ambitious fiscal consolidation – which would allow the government to reduce public debt and build resilience. This fiscal consolidation has to be supported by “comprehensive efforts to drastically improve revenue mobilization” – in order to generate 4 to 5 per cent (of the GDP) of additional tax revenue.

In terms of monetary policy, the IMF has asked Pakistan to adopt a “flexible, market-determined exchange rate”, which would make its exports competitive and rebuild foreign exchange reserves.

The report further talks about facilitating structural reforms such as energy sector reforms.

However, the IMF does state that the Imran Khan government’s budget for FY20, presented last month, “envisages a substantial fiscal consolidation”, including, among other measures, a prescription to widen the tax base.