The IMF and Pakistan

At the time of writing this article staff level agreement between the International Monetary Fund (IMF) and Pakistan authorities had not been reached. The IMF mission expected to wind up on 10 May extended its departure as talks were to continue over the weekend. This piece would therefore focus on the leverage and/or constraints of the two protagonists while an analysis of the actual agreement signed would follow as and when it becomes available.
This week past there were a plethora of speculative reports as to what the two negotiators namely the Pakistan authorities and the International Monetary Fund (IMF) staff mission had placed on the negotiating table. Pakistan's leverage is considered to be almost non-existent given our need for the bail-out package to deal with two highly unsustainable deficits - budget and current account.
Be that as it may, Pakistan's leverage could have been boundless if it had an alternate homegrown plan with the capacity to convince the IMF mission that Pakistan is on the path towards meaningful and un-reversible reforms designed to stabilize key macroeconomic indicators. This appears not to be the case in spite of a framework/plan drafted during the short tenure of Asad Umar as the finance minister which was reportedly submitted to the Fund during its annual spring meeting. This could be because Dr Hafeez Sheikh is unaware of it or, perhaps, never took ownership of it. At present, it appears that the Pakistan team is negotiating on a framework prepared by the Fund and attempting to whittle down on some politically extremely challenging conditions.
There is however one insurmountable constraint that the Pakistani authorities have to work under: a Prime Minister who would scuttle the deal if he considers the IMF stipulated conditions too harsh. True the Prime Minister's limitation is his slow but eventual realization - reflected by his administration's inability to decide on whether to seek the Fund package or not - that there is no other way. The 8.2 billion dollars borrowed from friendly countries for a year, exports rising marginally in spite of an export promotion package and a rupee depreciation of around 32 percent during the past year with imports rising as a consequence of the rise in the international price of petroleum and products are disturbing statistics; and cannot be dealt with without an IMF package or a will to mercilessly slash expenditure (particularly on civilian administration and defence) in the event that these two major recipients of annual allocations do not voluntarily offer to sacrifice, like the rest of the country, for a year or two.
The IMF staff's leverage with the Pakistani authorities is quite obviously considerable; however their leverage with their management and board of directors is severely limited on two counts. First, the Fund management and the Board, fully cognizant of Pakistan's past history with the Fund would be aware that Pakistani authorities may either seek a waiver for the agreed time bound politically challenging structural benchmarks (much in evidence during the mandatory quarterly reviews of the Extended Fund Facility 2013-16) or, failing to get a waiver, an extension in the time period of the programme (as requested in 2010 by the then finance minister Hafeez Sheikh with the Fund suspending the loan with two tranches remaining un-disbursed after Pakistan failed to meet the extended deadline). This has accounted for a rise in the number of prior to the loan approval conditions in the case of Pakistan which may reach the highest level in our history for the next IMF package.
The Fund's management supports some standard normal conditions which include full cost recovery of all utilities (envisaging higher charges), commencement of the process of privatisation (especially of Pakistan's three white elephants that have been a major drain on our annual budgets - Pakistan Steel Mills (which was taken off the list of privatisation by Asad Umar and which was placed back on the list (no doubt due to IMF insistence), Pakistan International Airlines (not yet placed on the list) and Pakistan Railways. However, these entities have powerful trade unions which launched massive protests that compelled previous administrations to abandon any plans for a sell-off. The Fund would also stipulate raising revenue by an amount from identified sources with the view to meeting the budget deficit target for the ongoing (prior condition) and for the duration of the programme. In the event that expenditure cannot be curtailed the pressure on raising revenue would rise.
Minister for Water and Power Umer Ayub in his press conference on 7 May in first extolled his personal achievements, as is the norm with politicians, (no load shedding on 80 percent of the 8,783 feeders, vigorous anti-theft campaign has generated an additional 61 billion rupees), then blamed the previous administration (450 billion rupees in circular debt) which, he pledged would be cleared in the next two years, which is without doubt an IMF stipulation. The clearance of the circular debt would entail higher utility tariffs. The rise in the international price of petroleum and products (and the government may adjust the tax rates upwards in the event of the budget deficit target not being met) and the rupee erosion (depending on the agreed range, if any, of the rupee value fluctuating vis a vis the dollar) would imply even higher electricity tariffs.
With respect to the State Bank of Pakistan (SBP) the Fund would insist on (i) government to borrow from the commercial banks while bringing borrowing from the SBP to zero, (total domestic borrowing for the current year has touched the 3.65 trillion mark as per the official of Debt Policy and Coordination Office); the PML-N administration brought borrowing from the SBP down to zero during the IMF programme, however, once the programme was completed in 2016 borrowing from the SBP began as external sources of funding dried up; (ii) higher rate of interest (to mop up excess liquidity though it would reduce private sector credit); and (iii) no interference in propping up the value of the currency (allowing market conditions to prevail though given Pakistan has a managed float one would hope that the Pakistani negotiating team insists on as narrow a range as possible as the rupee depreciation raises public debt which in turn puts further pressure on raising revenue and/or decreasing expenditure).
The SBP (irrespective of whether the governor is from the IMF or any other international institution), has always been compliant with Fund conditions; however resistance has been mounted by the Ministry of Finance that steps in with instructions whenever politics so demands.
Officials from the Federal Board of Revenue have been attending the sessions with the IMF staff however the new Chairman acknowledged that he attended only one session with the IMF mission and did not share his views on what changes must be made to reform the tax structure (and within what time frame). One would hope that the FBR team that did attend the sessions expressed their reluctance to raise and widen withholding taxes further (most of which are in the sales tax mode and therefore their incidence is higher on the poor than the rich), raise taxes on existing tax payers, and withdraw as many exemptions as possible which may negatively impact on productivity and exports. Additionally, the government estimates the yet to be approved amnesty scheme to generate over 250 billion rupees, an amount that is more than double what was achieved during previous schemes and hence appears unrealistic. If the IMF team approves launching the scheme, it will probably be before the programme becomes effective, and the projected target is not met Pakistani taxpayers may witness even higher taxes to meet the shortfall.
The IMF mission is also severely constrained by its Board of Directors, and the US chair in particular. Mike Pompeo, the US Secretary of State, stated last year that IMF would not extend a bailout package to Pakistan to enable it to pay off loans to China (under China Pakistan Economic Corridor), a country extremely hesitant to allow sharing of information of terms and conditions on loans), a view echoed by IMF's Managing Director Christine Lagarde. It is next to impossible for Pakistan to get a bailout package without sharing this information, including details of the 8.23 billion dollars procured as a one year balance of payment support from friendly countries - 3 billion dollars each from Saudi Arabia and United Arab Emirates and 2.2 billion dollars from China as a commercial loan.
The bailout package once signed is binding on the recipient only till the IMF quarterly review mission, and therefore can be abandoned at any time. Be that as it may, given the scale of the economic impasse facing the country today a careful assessment would need to be made before taking such a drastic step as with cessation of the package other multilaterals/bilaterals would also withdraw their programme (budget) support (though project funding may continue) and any attempt to issue Eurobonds/sukuk or offer Sarmaya-e-Pakistan bonds would be at rates well above the market rate and add to the country's already heavy debt burden.
To conclude, Pakistan's economy is between a rock and a hard place and part of the blame rests with the Khan administration to the extent during the past eight and half months into its tenure it made no attempt to slash expenditure or raise revenue in a meaningful manner (though one does appreciate the Prime Minister's attempt to slash unnecessary expenditure yet that was a piddling amount as a percentage of the total budget).