IMF and Pakistan

It is that time of the year again: the budget has to be announced latest by end June and, no doubt, a first or second draft of the document is, in all probability, doing the rounds of the Finance Ministry. It is unfortunate that this government's third budget is also expected to grapple with serious resource constraints and burgeoning current expenditure.
According to media reports, the International Monetary Fund (IMF) team is in the country to begin a quarterly review of the government's compliance with critical conditions. At stake is around 1.2 billion-dollar tranche release, which is dependent on the assessment by the IMF staff that the government complied with critical conditions identified and agreed in the programme and reflected in the letters of intent (LoI) submitted by the government to the IMF Board - a pre-requisite for each tranche release.
Sherry Rehman, former Information Minister, recently stated on a private television channel that the United States Treasury Secretary has to give a call to the IMF for the release of each subsequent tranche to Pakistan before it is in fact released. One would have to assume that as an integral component of the Gilani cabinet for two weeks, short of one year, she is in the know.
The implications of Rehman's statement are dire in two respects. First, that Pakistan's non compliance with the conditions as identified in each LoI agreed with the Fund staff would have, without the US intervention, been sufficient for the IMF to, at best, delay and, at worst, suspend the programme. And, second, a reconfirmation of what many in Pakistan believe: that even though the IMF is headed by a European and not a US national like the World Bank yet the US exerts an inordinate amount of influence on this institution, thereby linking assistance or tranche release not to compliance with critical conditions or the economic performance but rather to the US largesse.
This largesse, critics argue, is premised not as much on our economic needs as that on the US foreign policy objectives. Few would challenge the latter assumption. The US through the board of directors of all international financial institutions (IFIs - with representation from all member countries but with their clout linked to their share holdings in that particular institution) exerts considerable influence directly as well as through partnerships with other powerful members, mostly the European community members. To argue otherwise would mean conforming to an unrealistic picture.
The question is: on which the IMF conditions has there been consistent non-compliance by Pakistan? Is non-compliance on monetary rather than fiscal conditions? It is patently evident seventeen months after the Pakistan government opted to go on the IMF programme that non-compliance has been with respect to fiscal conditions. Those who argue that it is relatively easier for the State Bank to follow the IMF diktat as it has limited political implications are not only blatantly overstating the independence of our State Bank from the executive branch, notably the Finance Ministry, but also under-stating the role of a central bank in controlling inflationary pressures, which have a direct bearing on the popularity of an incumbent government.
The SBP, under the IMF programme, has resisted all attempts to reduce the rate charged on borrowing - a rate that the industrial sector unanimously alleges is responsible for its poor performance. The SBP may well argue that raising rates is a standard normal economic prescription to control inflationary pressures, however, this is rather a twisted logic in Pakistan's context for two reasons. First and foremost lower productivity as a consequence of high cost of borrowing, (though it is fair to say that the severe energy shortage has, perhaps, been playing a larger role in low industrial output for the past two years), has resulted in demand chasing too few goods with a resultant increase in prices.
In addition, the inflationary pressures in this country continue to be held hostage to routine profiteering and smuggling. Second, the heavier reliance on imports as a consequence of lower domestic output has led to a burgeoning trade imbalance with a consequent impact on the external rupee value. This, in turn, has increased Pakistan's internal and external indebtedness, thereby sustaining Pakistan's heavy reliance on each IMF tranche. Or in other words, there is evidence to suggest that high interest rates have had a negative impact on our economy that may outweigh the advantages. Be that as it may the SBP has complied with the programme.
Non-compliance with the IMF programme can mainly be sourced to fiscal policy. In this context, it is necessary to distinguish between what is clearly the spirit behind an IMF reform recommendation, or qualitative reforms, and the time-bound quantitative criteria of these reforms. There is considerable evidence to suggest that the IMF, as well as local and foreign economists, remain deeply concerned with Pakistan's appallingly low tax to GDP ratio. To improve this ratio, the IMF recommended that exemptions, granted to the rich and influential, be reduced with a view to their complete elimination; and revenue must be increased in a manner that would be acceptable to the general public, reflected by the Fund's insistence that the government publicly debate the pros and cons of a broad based value added tax prior to its imposition scheduled to be effective from the first day of the forthcoming fiscal year.
The government's response was not to widely circulate the proposed draft VAT or place it on the web for general public comments or to publicly discuss its impact on the people, but to hold a series of seminars where it identified the stakeholders. These stakeholders were largely members of the provincial governments as well as a handful of industrialists and the seminars were not open to discussion but were merely used to inform the participants of what the government intended to do. Such an approach explains the eruption of a controversy that now surrounds the implementation of a broad based integrated VAT.
The Sindh government insists on collecting VAT on services, a provincial subject, while the FBR is attempting to circumvent the constitution by arguing in favour of an integrated VAT whereby it collects the tax on goods, a federal subject, as well as on services. This controversy proves that the FBR was unable to successfully sell its draft VAT proposal to the provinces. Instead of revisiting this issue in light of the country's Constitution the FBR, considered one of the most corrupt institutions of this country, is proposing that the President use his political influence over the Sindh government to force it to capitulate on this issue. This is indeed unfortunate and bodes ill for the implementation of this tax.
In addition, the government continued for the second year running to rely heavily on the petroleum development levy, which it renamed to alleviate the furore created in the National Assembly as well as on the streets of this country. The objective: to come close to the quantitative deficit target agreed with the IMF.
What was the advantage of the PL from the government's point of view? It was not a new tax that would be resisted by the public, it was easy to collect for the government and it would be easily adjustable in case the Friends of Democratic Pakistan (FoDP) failed to translate their pledges in Tokyo into disbursements. Thus while the government largely met the quantitative target of the deficit as stipulated by the IMF it failed to meet the qualitative target of raising the tax-to-GDP ratio.
The other major area of non compliance has been with respect to utility pricing. Electricity tariffs have been revised upward but not by as much as was required under the IMF programme. It is simply politically inexpedient for this government to increase rates any further within the next month or so or meet the quantitative targets it agreed to with the IMF.
Reports in the press reveal that the government is requesting a further deferral of this condition till the next fiscal year when a rate rise, accompanied by a significant reduction in loadshedding, may justify a rise in total monthly electricity bill in the eyes of the public.
The question is: would the government succeed in convincing the IMF to release the next tranche? Let us hope that Sherry Rehman's assessment is correct and the US makes that fateful call to the IMF. Are the government economic policies for the past two years in the best national interest? One would have to look at macroeconomic indicators that reflect public well being to respond to this question: high food and transport inflation that impacts on the poor more than on the rich, loadshedding that is badly affecting the lives of all those who cannot afford a UPS or a generator, unemployment levels effected through loadshedding as well as high cost of borrowing and poor governance as reflected by massive corruption scandals.