EDITORIAL: The economic growth outlook is getting bleaker. Both the World Bank and the Asian Development Bank have revised the growth rate downwards to below 1 percent.
However, the decline is getting steeper and recent high-powered numbers suggest that the GDP might contract in the current fiscal year.
This has significant implications for businesses, particularly those which are heavily dependent on raw material imports. In a recent report carried by this newspaper, the documented steel sector has urged the prime minister to rationalise the turnover tax rate.
The premise is the reality that the steel industry is on the brink of closure. And the documented sector is at a disadvantage on two counts — first, it has to pay turnover taxes whereas the bottom line is in red; and second, import of raw material through legal channels by it is obstructed.
With import restrictions, businesses that operate informally have adequate room to flourish at the cost of formal businesses. Steel sector is one example where turnover tax is making life difficult for formal businesses.
In another case, mobile phone assemblers are losing out to CBU phone importers. Raw material imports are not allowed while phone imports are growing where payments are made through hundi/hawala. The result is that some phone assemblers are considering moving towards the informal segment to stay afloat.
The undocumented or informal economy is already quite large in Pakistan and its size is bound to grow with distortionary and discretionary policies for imports and the players in the formal sector of the economy that religiously operate under the lofty transparency ideal of documentation.
A couple of months ago, the State Bank of Pakistan (SBP), on the request of businesspeople, allowed importers to bring goods if they have deferred payment facility for 365 days or more.
It’s, however, hard to comprehend that any supplier would offer credit to buyers in Pakistan, given the precarious balance of payment situation where large Multinationals (MNCs) are facing numerous difficulties in repatriating their profits while global banks are reluctant to confirm Letters of Credit (LCs) from Pakistan.
The most likely outcome is that the buyers are paying through informal hundi/hawala channels and getting the supplies through intermediaries that are either their sister concerns or companies of acquaintances in a third country such as the UAE, after which the supplier can give credit to the buyer in Pakistan for 365 days or more.
The catch is the question: what happens when the payment date becomes due? At that time either the company must pay through a formal channel or have higher tax liability as the cost is not fully reflected in its books.
And the payment depends upon the PKR value and forex reserves’ situation. All these factors are keeping the formal sector away from such transactions, and that is resulting in a huge incentive for informal segment to grow further.
There is a possibility that in order to muddle through successfully the formal sector may be constrained to shift its area of activity to the informal domain.
This phenomenon has already materialised (2015-16) when there were talks that FBR (Federal Board of Revenue) could gain access to people’s bank account information.
Meanwhile, the discrimination between filers and non-filers has also begun to accelerate. This is evident from the growing amount of currency in circulation. Therefore, the situation is ripe for this transition to gather further momentum.
The federal tax collection was 9.2 percent of GDP last year and given the fact that GDP is often under-stated, the tax-to-GDP ratio is even lower. And this is expected to worsen further if the imports are not normalised for the formal sector.
This is a dangerous trend for the country’s formal manufacturing sector. Legal formalities constitute an implicit pre-condition to attain scale and be competitive in the global markets to boost exports, and if firms move toward informal practices, it would not bode well for anyone, least of all the economy at large.
The government is, therefore, required to revisit import restrictions or curbs without any further loss of time. Fortunately, the country’s economy is still not beyond repair.
Copyright Business Recorder, 2023
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