Sovereign and strategic: looking at a budget beyond the IMF

Recently, Pakistan’s coffers were replenished with the final tranche from the IMF’s Stand-by Agreement (SBA), sparking curiosity about the wonders achieved during the short nine-month sprint. Despite being in an IMF programme more times than a smartphone runs software updates, Pakistan remains mired in a low-growth trap and relentless austerity. Surely, such a cleanly cut cheque is likely the reward for some exceptional accomplishments, right?

Well, according to the Second and Final Review of the SBA, the IMF states that “moderate growth has returned” and is expected at 2 percent in FY2024. The review highlights significant achievements: a sizeable primary surplus in the first half of FY2024 due to improved revenue performance and spending restraints, stabilization of the energy sector’s circular debt through timely tariff adjustments and enhanced collection efforts, and notable progress in social spending and poverty alleviation through the BISP program.

A very generous appraisal indeed. Basically, Pakistan received a $1.1 billion final disbursement for not running itself further underground.

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Despite the exceptionally glowing report card, the IMF does seem to somewhat agree with the average broken-backed Pakistani who is collecting their jaw from the floor at this point. The IMF’s congratulatory tone is highly caveated; it states that “significant challenges remain beyond the life of this program” and highlights the need to do much more to address Pakistan’s broader structural challenges.

Hence, with budget season roaring in full swing, what key reforms should be prioritized to catalyze real and substantive change and carve anything remotely resembling a path towards sustainable and inclusive growth?

Here are some critical themes:

Let’s start off with the fan favorite – tax revenues. The focus should be largely (and critically) on expanding the tax base to sectors including (but not limited to) agriculture, retailers and wholesalers. Squeezing more tax out of the few salaried filers is not going to take us anywhere. Additionally, the skewness of the tax structure towards indirect taxation needs dire adjustment.

This counteracts the “protective nature” of a progressive tax scheme; the middle to lower socioeconomic groups are inevitably disproportionately impacted with any increase in indirect tax. This also causes inflationary pressures.

On the expenditures side, this is largely incurred on interest payments, defence, and government payrolls. Subsidies and grants also comprise a fair share. Development and operational spending comprise the fractional but consequential remainder, and rely essentially on debt financing.

Pakistan’s FY25 budget to be presented on June 10, sources say

Thus, only a small portion of the spending can be adjusted in the short-to-medium term. The usual focus on reducing the most vital part, development spending, traps us in a cycle of low growth, denying the country essential infrastructure and services.

Instead, there is ample fiscal space currently trapped under the burden of i) decaying, grossly overstaffed, and mismanaged state-owned enterprises and government institutions in general, and ii) an entirely dysfunctional power structure.

One eagerly awaits a more marked-to-reality poverty protection envelope in the budget, inflation-indexed, and extending to a broader population base

On the former, an alarming fundamental misconception exists among some of our “ruling elite” about the government’s role in job creation. The public sector is responsible for creating conditions conducive to high quality jobs; it does not take it upon itself to hire thousands in mostly non-technical and ancillary roles in obsolete and decaying institutions that are sustained by debt and dwindling revenues.

This relentless obsession with creating fiefdoms through piling on headcount rather than focusing on quality is what has led to and perpetuated a steady decline.

Another fiscal burden, the power sector, has its own Pandora’s Box worth of issues. Despite underutilized generation capacity, 25 percent of the population remains off-grid.

Grid-connected users endure constant power outages, costly generators and the recent-most challenges with solar panels. This stems from a debilitated transmission and distribution (T&D) system.

Shackled by our fixed capacity payments and expensive imported fuel, energy tariffs remain high and are increasingly passed through to the end user with the reduction of government subsidies.

Layer on a healthy helping of indirect taxes, and this not only causes inflationary pressures but also prohibitively increases a largely non-variable cost to both businesses and homes.

Addressing T&D issues is dire in itself. This, paired with reforming DISCOs and renegotiating IPP payments, is also ultimately crucial to resolving our spiraling circular debt.

A budget that reflects a strategic and phase-wise resolution of these issues to release trapped fiscal space would be most welcome.

On the expenditure side, we need government spending, particularly development-related. The gap between the demand and supply of environmentally-resilient public infrastructure and services, including education and healthcare, is now chasmic and worsening with the country bearing the full brunt of climate change. Majority of the districts affected by the devastating floods are yet to be rehabilitated and reconstructed.

Unfortunately, for now our reliance on debt-financed growth will need to be endured. Nonetheless, the state’s fiscal burden can be reduced through adopting modalities such as public-private partnerships (PPP).

Apart from accessing alternative financing, PPPs’ other benefits include increased efficiency, managerial and technical skills transference, “crowding in” of further investment, and very importantly enforcement of transparency and accountability.

However, our public institutions and line ministries have to overcome major capacity issues to engage in PPPs, which could also catalyze broader sectoral and institutional reforms. Such modalities will require establishment of effective frameworks for public finance and investment management, including fiscal risks and contingent liabilities.

Pakistan’s economy is geared towards consumption over value-creating investment, leading to imports far outstripping domestic production, negligible real capital formation and stifled job creation. Remittances exceed 8 percent of our GDP, well above the low-income country average of 6 percent. While often celebrated, this figure reveals little about their impact on capital formation and job creation. Absent these, remittances maintain our vulnerability to external shocks and fuel import-driven consumption.

Thus, while most of Pakistan is in the “import-export business”, we are paying hefty dollar bills for something as basic as daal. Inevitably, our current account deficit will continue to escalate, and the exchange rate will face a higher depreciation risk. Restricting import LC openings was a quick and short-sighted fix.

A sustainable solution lies in reorienting the economy towards indigenous cross-sectoral production (steadily and increasingly focusing on high complexity output), thereby enhancing self-reliance and boosting local exports.

Meanwhile, hiking up the interest rates, ballooning domestic debt, and “crowding out” private sector credit and investment, while palpably resisting innovations such as the use of solar panels by businesses (and home owners) to drive down their operating cost are only going to create additional hurdles to doing business. It is hoped that the budget acknowledges the severe challenges businesses and investors have faced in recent years and begins to address them.

Such systemic reforms require strategic phasing and need time to take root. A slapdash approach is always ill-advised. And budgetary allowance for real growth will, unfortunately, keep us tethered to external financing for now.

This is where state protection to the most vulnerable takes center stage. The IMF review almost entirely discusses this through the lens of the BISP program. Yet, let’s call a spade a spade – BISP is hardly the robust safety net it is touted to be. The review sheepishly admits that its generosity level “remains below international standards”.

Nearly 40 percent of the population is scraping below the $3.2 per day poverty line; several lives and livelihoods have been lost to devastating floods, poor harvest or drought.

BISP barely makes a dent with a payout of about $0.33 per day to a roughly 54 million of the population, with the poorer provinces having a lower registration rate. And this number does not account for scheming BISP agents looking to defraud the most vulnerable.

One eagerly awaits a more marked-to-reality poverty protection envelope in the budget, inflation-indexed, and extending to a broader population base.

Overall, the weakest link in our public sector is implementation. To bolster it, we require strategic digitization (minus the obsession with real estate) greater transparency and accountability (of the non-coercive variety), and a public sector workforce capacity driven by quality rather than sheer numbers.

While it is no secret that the Budget 2024-25 is effectively a “prior action” to Pakistan’s 24th IMF program, one hopes that the “powers to be” go beyond the confines of compliance with the IMF and place the future and well-being of over 240 million souls as their true north to finally start edging it past a seemingly perpetual “nazuk mor” or critical period.

The article does not necessarily reflect the opinion of Business Recorder or its owners