Agreed, Pakistan’s credit default swap (CDS) risk has increased substantially during the current year, that it has a huge financing gap in terms of its loan repayment needs, and that the positive signal in terms of the successful negotiations with the International Monetary Fund (IMF) is being both considered important in terms of release of much-needed special drawing rights (SDRs), and even more significantly in unlocking other multilateral and bilateral assistance.
Having said that, what is not rightly being assessed is that there is a way around the ‘cost’ of all the above, and which is to obtain these inflows, Pakistan will have to continue to seriously choke the economy, to not grow enough to undo the current, strong stagflationary headwinds of significantly reduced economic activity – low industrial and agricultural output, low exports due to rising costs of production and lack of imports of raw materials, overall high taxes/tariffs and low subsidy provided to keep energy prices at a reasonable level, and unnecessarily high level of policy rate even when inflation is primarily a global supply shock related phenomenon, and wrong policy of using policy rate to lure foreign portfolio investment (FPI), given the damage this small advantage is pursued at the cost of high damage to economic- and exports growth – and rise in unemployment levels; in addition to inflation being at historically elevated levels for a number of months now.
Pandemic-causing recession, at the back of strong austerity, procyclical policies pursued in the current IMF programme that began around a year before the start of the Covid pandemic – such policies only to be relaxed somewhat during the pandemic - but while subsidy was provided on energy and fuel during the end of last year and a number of months into 2022, policy rate continued to rise significantly as part of the procyclical policy framework since September 2021.
In addition, move towards an overall market-based exchange rate had started even during the last few months of the government before the 2018 elections, and the PTI government also followed the same. So, except for the last few months, when exchange rate has been somewhat significantly managed, the rest of the time it has been fairly market based.
Having said that, while the current practice is unwarranted – given the significant wedge that has been created between official and market rates – exchange rate should be determined in a meaningful managed-float way, and not left entirely on market forces, given frail underlying market fundamentals that remain weak in restraining speculative activities, and also some leeway that governments should have in protecting against imported inflation, especially of countries that are net importers of oil.
This is because oil prices, in general, do not follow determination on purely market forces of demand and supply. Managed float, and policy of putting in place meaningful capital controls is also important since unlike the original thought process of globalization of capital going to places where most needed in terms of productive opportunities – due to a lack of meaningful global regulation, among other reasons – has kept FPI following profit signals and speculative practices, and being even termed as ‘hot money’ like hot air.
The IMF is making a serious mistake of browbeating programme countries, especially with high inflation and heavy debt repayment needs, to following significant procyclical policies, even when they are at low growth, growing unemployment, falling export competitiveness, and increasing levels of poverty and inequality.
Hence, rather than the IMF providing debt distressed countries, especially those that have been challenged with grave climate change related disaster and vulnerability – that for instance, Pakistan is, that could only provide a meager stimulus during the pandemic, and could cushion only slightly in terms of subsidies, as oil prices increased at the back of mainly oil supply constraints, and that went through climate-change induced catastrophic flooding that entailed a loss of around $30 billion to the economy, in addition to significant loss of lives and livelihoods – with meaningful allocation of SDRs under an even better distributed enhanced allocation from an overall global allocation of $650 billion, which has been well over-due for many months now. In addition, the IMF still continues with its policy of ‘surcharges’ as fines on late repayments on its debt from programme countries.
Lack of this understanding by the IMF, which is indeed nothing short of being cruel for programme countries, where it overall continues to ask them to follow austerity policies, and in a procyclical way, when it is clear that the way out of the economic misery at the back of global supply shock caused primarily by years of neoliberal thought process keeping regulation of global supply chains weak, and domestic supply chains under-funded in terms of public investment, and the fragility of which was exposed by climate change and pandemic shocks, and accentuated by a geopolitical shock in the shape of war in Ukraine is meaningful enhanced allocation of SDRs, and by the IMF and other multilaterals/major bilateral countries not pushing for overboard monetary tightening, and not providing needed debt moratorium/relief; in addition to major climate change contributing countries not even providing climate finance that they pledged they would provide to developing countries for a number of years. Then, it is the climate change-related annual SDR allocation proposal, given under the leadership of Barbados Prime Minister and titled the ‘Bridgetown Initiative’, is also not being actively adhered to by the IMF.
Therefore, when it is quite clear that austerity, and procyclical policy demands by the IMF, and countries that are also linking their aid flows to a nod from the Fund which it will give in the shape of successful completion of already much-delayed nineth review of the current programme with Pakistan, has been and will be detrimental to economic growth, and as a fallout on lower domestic resource mobilization, and heightened risks in the shape of much higher levels of cost-push and imported inflation levels, higher debt distress, especially domestic debt being ballooned by unnecessarily high policy rate, low levels of exports, and overall even more economic misery in terms of poverty, and inequality, then how can it be described as ‘strict policy decisions’ that the government should take when clearly following an austerity, procyclical policy, especially in a downturn is ‘wrong policy’.
Given it is a wrong policy since the serious negative impacts on the economy it has and will likely produce, how can the IMF link release of tranche with Pakistan continuing to push unwarranted, harsh policies like continuing with high policy rate, increasing tariffs to curtail circular debt, and slashing subsidies in the energy and fuel sector for fiscal consolidation? This just does not make sense for the IMF to make such demands, for bilaterals and other multilaterals to align the release their inflows with Pakistan meeting such demands – where IMF’s own research in recent years accepts the negative fallout of austerity policies in the eurozone area after the financial crisis of 2007/08, not to mention that the US and Europe are reportedly planning significant stimulus/public spending policies to mitigate the global supply shocks –and for the government to agree to these aggregate demand management policies, when clearly the problem mainly is under-investment on the aggregate supply side.
Hence, the upcoming year should be a year when public policy in Pakistan, and overall globally, makes a major course correction in terms of moving away from following the mantra of Neoliberalism, austerity, and procyclical policies. Instead, Pakistan should announce a non-neoliberal, non-austerity, counter-cyclical reform agenda, ask the IMF to come along with it, and other development partners to link their flows to this.
Under this reform agenda, Pakistan should understand that years of policy giving undue importance to market fundamentalism has not allowed economy to be resilient, inclusive, and sustainable, which in turn has also had negative impact on the quality of democracy in the country. Instead, public sector should adopt reforms on the lines of social democracy – the middle way between capitalism and socialism, as has been adopted by a number of Scandinavian countries – welfare state, with strong economic institutions making expenditures efficiently, and those higher up on the income and wealth scale pay the most taxes in a progressive way.
Hence, the need for reform – both the civil service, which the writer has amply discussed in these columns, and favours one public service (and hence, no separate service as civil service) with fast- and routine streams, and also to make significant public sector investments, especially in terms of diminishing the practice of outsourcing, and increasing in-house capacity to reach contracts with private sector as meaningful partners in profits and also in protecting the rights of the citizens against excessive and short-term profit mindedness and investing priorities of the private sector.
Indeed, the above reform is for the short to the medium-term nature. This should be immediately laid out in terms of broad structural changes, and given strong legal cover to show the seriousness of reforms to the IMF and other development partners.
That should serve as ‘one’ guarantee to them to support the country in achieving the revenue targets, and financing the subsidy requirements through broad-based, non-austerity, counter-cyclical policy – and including features of tightening belt in terms of current expenditures, prioritizing development expenditures, and targeting subsidies where needed but not taking away needed energy subsidies – by the IMF providing SDR-related support both under the programme and in terms of enhanced allocation, and other bilaterals/multilaterals to release inflows and provide moratorium/relief on debt. Once this support is provided, CDS risk will also come down at the back of confidence being instilled by development partners through the above indicated measures.
Similarly, under this reform agenda, brought forward in the next few weeks through proper legal cover, an alternative counter-cyclical, pathway will be provided through measures that significantly increase the tax base and allow a reduction in circular debt through both deep policy measures to check infrastructural/administrative loopholes in the collection of bills and in reducing energy line-losses, and through channelizing funds created through enhanced fiscal space at the back of reduced policy rate, and with it much lesser domestic debt repayments.
Once again, the grounds for reducing policy rate laid down through logical reasoning that inflation is primarily an aggregate supply shock, and lack of proper market governance phenomenon that in turn allows for undue excessive profiteering, and collusive practices.
Hence, governance and incentive structure-related policies, along with public investment needed in both capacity – and infrastructural built-up of economic institutions, and underlying organizations, and markets – should be brought to the fore on an urgent basis, and shared with the IMF and other development partners. This should serve as the ‘second’ guarantee to the IMF that programme targets of circular debt, reducing inflation, and increasing debt sustainability would be reached through these policy actions, and why, given the above discussion, should be more sustainable policy choices.
Copyright Business Recorder, 2022