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  #41  
Old Friday, May 25, 2007
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Default Truth about population growth

Truth about population growth


THE government has been painting a rosy picture of the population scene in Pakistan. But a document prepared by some donor agencies has exploded the myth propagated by the prime minister that the population growth rate has come down to 1.8 per cent and will be further reduced to 1.3 per cent by 2020. The document obtained by this newspaper says that the population is growing at the rate of two per cent per annum. The Unicef puts it at 2.2 per cent. Not much will be gained by juggling with figures to deceive people since erroneous calculations will only result in lopsided planning. Besides, it lulls the population policymakers into a false sense of complacency with no effort being made to analyse the factors that are contributing to such a high population growth rate in Pakistan and rectify these.

There are basically two reasons which have pushed up the demographic growth rate. One is the usual story of failures in the delivery of contraceptive services. As has been the practice in other areas of the social sector, the government has been disengaging itself from the population welfare programme leaving it to the NGOs — 264 of them have been registered with the National Trust for Population Welfare — to attend to this sector. Although many of the NGOs are doing excellent work, their reach is limited. They have 479 outlets when the government has nearly 2,500 centres. Again, as is the case with the health and education departments, the performance of the family welfare centres is below par and they have failed to make the impact they were expected to make. There has been talk of an appropriate strategy for the future with special emphasis on advocacy programmes, participation of communities in service delivery, and reducing unmet need for contraceptives. All this sounds impressive, but without efficient monitoring, it is unlikely that these family welfare centres will be activated and mobilised.

There is something more that needs to be looked into. This is the issue of gender equality which is directly linked to the success of a programme seeking to regulate the family size. Surveys have now clearly established that the key factor in determining people’s choice of the number of children they want to have is not so much religious beliefs as was the case once, but their expectations from their offspring. Considering the low status of women in Pakistan, the preference for the male offspring is usually pronounced. Their birth is seen to be an insurance policy for the parents for their future and a factor of social standing for the family. Therefore, the gender of the children and the order of their birth generally determine the family size. A country, where male prejudices are strong and women constitute the neglected section of the community, cannot succeed in curbing the galloping population growth rate. Now is the time to address the male biases in our society to change the attitudes of the people. This must be done at every level — in education, through the media, through political reforms, as has been done to some extent, by empowering women economically and socially, legislating pro-women laws and making the legal system women-friendly. If undertaken in earnest, such measures can bring about changes in the national status of women and thereby have an impact on the demographic factor.
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  #42  
Old Friday, May 25, 2007
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Direct tax policy principles: a review-III MOHAMMED ASHRAF

ARTICLE (May 24 2007): Donation out of Penalty: A heavy non-performing portfolio and default on part of the clients is a serious problem confronted by the Shariah compliant financial product provider. This problem could threaten the success of the Shariah compliant financial products service provider.

If clients do not honour their commitment in respect of timely payment in respect of a Shariah compliant financial product, it could cause irreparable loss to the system. In Islam, it is permissible to penalise a financial debtor, who delays payment of debt without any genuine reason.

The Holy Prophet (PBUH) said, "A rich debtor who delays payment of debt commits zulm". Hence, jurists allow the punishment (Taazir) to such a borrower in the form of a fine. In the opinion of some Maliki jurists, a delaying borrower would be obliged to pay for charitable activities.

In view of the severity of the problem, all Shariah bodies including the Shariah bench of the Supreme Court of Pakistan, have approved the provision of a penalty clause in contractual agreements that keep a balance between the requirements in view of the severity of the problem and that of the Shariah conditions/principles, to maintain the fine difference between interest and profit on Shariah compliant financial products intact.

However, the penalty proceeds would be used for charity because penalty on default in repayment cannot become an automatic source of income for the creditor. Hence, it is imperative that a new sub-section needs to be introduced in section 20, whereby all such penalties are donated, and amounts are reflected, in the tax returns of such 'not for profit making organisations,' having NTN.

GROUP RELIEF:

THESE POINTS ALSO NEED CONSIDERATION

LOCAL CONSOLIDATION:

1. How will the territorial boundary of a multinational group be defined

2. Will the controlled foreign companies be included in a group

3. The term 'group' is not defined in the Companies' Ordinance, 1984, hence, will any new framework have its own definition?

4. Should groups be given the option to be taxed on the basis of a group consolidated account or should the consolidated basis be mandatory - and what about groups, which are not required to produce consolidated accounts under the Companies' Ordinance, 1984

5. How will associated companies and minority interests be dealt with?

6. How will losses be dealt with?

7. Will the elimination, on consolidation, of profits on intra group sales of trading stocks and other intra group trading transactions be followed for tax purposes

8. How will consolidation adjustments be dealt with?

9. To the extent that group member companies outside the national territory are included, how will the limitation on national taxing right afforded under bilateral tax treaties be identified

INTERNATIONAL CONSOLIDATION:

1. It will be necessary to harmonise the basis of computation of similar profit and gains, especially trading profit. 2. It will be necessary to harmonise the basis of taxation of intra-group dividends.

3. It will be necessary to determine some method of apportioning consolidated profits and losses between countries having DTT and dealing with effects of cross-border set-off of losses against profits.

TAX RETURN:

It is requested that the tax return dates should be extended from September 30 to October 31 and from December 31 to January 31, as this will provide an ease to taxpayers. However, this needs to be coupled with obligation over Withholding Tax agents to send Withholding Tax deduction certificate and tax payment receipts to the person from whom tax was collected or deducted till September 30 or December 31. This may also be coupled with rigorous penalties.

It is also suggested that persons, from whom Withholding Tax was deducted or collected, need to file tax returns, however, the literacy rate may become an impediment in this.

TAX REFUND, ADJUSTMENT AND VERIFICATION:

Central Board of Revenue's recent refund adjustment circular is highly applauded, however, the point is to verify the refund. Refund was verified at the time of assessment and then again at the time of refund. The problem is coupled when the tax payment receipt are from all over Pakistan. This needs to be resolved.

ROOT CAUSES OF TAX EVASION - PERCEPTION:

Firstly, this Income Tax was introduced in 1860 after the Ghadar or Battle of Freedom for five years, and then there was a three years gap in order to subsidise the loss of this battle. It was again imposed in 1868 till 1873, and then again imposed in 1886 for around 30 years. Then in 1918 a new enactment was enacted, which was renamed as 1922 after some amendments, which was then changed into Income Tax Ordinance, 1979 and currently available in the shape of the Income Tax Ordinance, 2001.

However, in Pakistan, there were and are, many perceptions regarding the applicability of Income Tax being Un-Islamic, as people believe that zakat, khiraj, fai and Jazia are the only prescribed taxes. However, taxes are not limited to that, but one may consider the import tax - chungi that was first imposed during the period of first four Caliphs, as this was a need of society at that time.

However, the wrong perception about taxes has still not been corrected, although corrective measure have been taken by reducing the tax rate, etc.

OWING TO THE FOLLOWING REASONS THEY REMAIN INTACT:

1. Name-based exemptions, instead of industry or principle based exemptions

2. Social welfare schemes are not normally undertaken owing to non-availability of principle-based exemptions for donations and deductions for the taxpayer

3. In Islam, there is a concept of donation, the left hand should not know when the right hand donates and one must help their poor relative, however, no such concept is recognised in the Income Tax Ordinance, 2001

4. Zakat is a deductible allowance but it is not allowed to be deducted from tax payable - this strengthens the concept that Income Tax is Un-Islamic.

5. A person earning 200K required to feed a family of three member, while another person earning the same income are required to feed not only his family but parents and small sister and brother. Both are taxed in the same way!

6. The concept of one's deduction and other's income is absent, as this may bring new taxpayers on verification.

POINT FOR CONSIDERATION CENTRAL BOARD OF REVENUE:

1. Consider tax reforms which take into account all taxes borne and collected by businesses, as well as the cost of tax compliance - Total Tax Contribution

2. Increase governments accountability and communicate with taxpayers as to how taxes are spent

3. Consider clear tax education campaigns to explain the taxes, how to pay them and the benefits to all stakeholders

4. Consider how simplification of tax legislation, the ease of compliance burden, and the consolidation of taxes might generate benefits for both governments and taxpayers.

5. Consider consultation with taxpayers when developing ideas for tax changes

TAXPAYERS:

1. Gather information on the total tax contribution, including all taxes borne and collected, as well as the cost of tax compliance.

2. Ensure that information around the total tax contribution is made accessible to governments and tax authorities to help inform their decisions over reform.

3. Communicate the total tax contribution to the wider stakeholder groups to demonstrate the extent to which they are supporting public finances through taxes.

4. Engage in regular dialogue with the Central Board of Revenue over the need for reform and specific areas of concern.

I personally appreciate the efforts of the CBR who is trying to provide developed countries facilities in a developing country, however, they are in a room full of age-old garbage with a vision of a clean room. The Central Board of Revenue is moving in the right direction, but when things move in the right direction then expectation grows! As stated earlier, taxpayer's need to know how their taxes are spent and I would like to end on a small part of history.

"At times, Syria (Sham) was attacked by the Tatars, the King decided to take judicial decree from Islamic Scholars for imposing a tax to meet the expenses. When the issue came before Imam Noovi [Rahmat ullah Alah], he opined

The King lives a lavish life and has a lot of wealth, he also spends a lot of money but his wealth, income and perquisites are not taxable, let him start first by donating his wealth, and then the treasury has the right to tax over the common people."

(Concluded)
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  #43  
Old Monday, May 28, 2007
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The cost of rising prices

PRICE is the end product of all economic activities. It is therefore a complex issue to be tackled. The current upsurge in prices can be attributed to failures of the market as well as of official policies. The worst hit is the 74 per cent of the population which lives below two dollars a day or less than the officially fixed minimum wage of Rs 4,000 per month. In view of the rising cost of living, the industrial workers find that they are unable to make both ends meet. Countrywide people are living under the worst kind of poverty. The purchasing power of the poor is being eroded by food price inflation, now at an abnormally high rate of 10.2 per cent. A report carried in this newspaper on Friday says that the speculators and hoarders, active as usual on the eve of the budget, have raised the prices of many kitchen items. The price of wheat, a staple diet of the poor, also shot up because the government chose to allow exports without first building strategic stocks required to keep market volatility under check. Nor was there much wisdom in allowing exports in the early stages of crop harvesting when the initial and final crop estimates always vary because of the inability of food departments to accurately assess the crop size. On Thursday, the government had to suspend exports to prevent speculators from exploiting the market but flour mills representatives claim that the raised prices of atta would not come down.

A day later, export of gram was also suspended but that of rice continues with its price soaring

With the overseas sales of manufactured goods falling, the government appears to be focusing on the export of food grains at the cost of the poor consumers. The inconstancy in policies — allowing and then suspending exports — is not in the best interest of the market. The government’s intervention in the event of market failure should not create market distortions. What the government needs to do is to actively help people with excess money to find productive avenues rather than create artificial shortages for profiteering especially when the country has production and trade surpluses as in the case of wheat and gram. One gets the impression that whether it is the government, the market or the State Bank, the commitment to price stability is weak. All business ethics are set aside by the renter class to make a quick buck.

Apart from the fiscal expansion that contributes to high inflation, the government is dragging its feet on updating the competition law to curb unfair trade practices. The State Bank has yet to start inflation targeting while keeping the food prices outside the ambit of its monetary policy. While the major economic agents have easy access to corridors of power, the poor have no voice in policy-making that can only be ensured by periodical elections and democratic accountability. The principal issue in combating high inflation and poverty is the quality of economic growth. Despite robust growth averaging seven per cent for the past four years, unemployment is on the rise again. In the absence of a growth strategy anchored in equity, price stability will remain elusive and economic progress would have no meaning for the vast majority. Only a few will continue to benefit at the expense of many; a perilous course indeed.
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  #44  
Old Monday, May 28, 2007
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Default IMF surveillance: review

IMF surveillance: review By Aftab Ahmad Khan

The International Monetary Fund (IMF) administers the international monetary system and operates as a central bank to central banks. This institution was established on December 27, 1945 when 20 countries signed the Articles of Bretton Woods Agreement (charter). Financial operations of the Fund began on March 1, 1947.

The celebrated economist Lord Keynes and the American diplomat H.D. White played a leading role in the creation of the Fund.

The purposes of the Fund are to encourage international monetary cooperation, facilitate the expansion and balanced growth of international trade and thereby contribute to he promotion and maintenance of high levels of employment and real income and to the development of productive resources of its members and help member countries in correcting balance of payments deficit, promote exchange stability and assist in the establishment of a multilateral system of payments in respect of current transactions between members and the elimination of foreign exchange restrictions which hamper the growth of world trade.

Central to the purposes and operations of the Fund is its mandate under the Article of Agreement to “exercise firm surveillance over exchange rate policies of members” and to adopt “special principles for the guidance of all members with respect to their policies.”

The IMF carries out this mandate by examining international monetary issues and by examining all aspects of member countries macro-economic and related structural policies, since these policies taken together have important implications for the exchange rate system.

The IMF surveillance is designed to encourage members to adopt appropriate policies and to help them in identifying issues and problems in a timely manner so that members can adopt corrective measures more quickly.

In recent years fundamental shifts in the global economy such as rapid growth of private capital markets, increased regional monetary integration, the implementation of current account convertibility and market oriented reforms in a large number of countries have greatly increased the importance of effective and timely surveillance.

These transformations are being mirrored in increased responsibilities for the IMF. Its membership has grown rapidly, so has its policy advice, financing and technical assistance and training to a record number of countries.

Prior to the collapse of the par value system in 1971, the implicit surveillance under the Bretton Woods system focused only on the obligations a member had to maintain the par value of the currency. After 1971, international financial arrangements became more complex as countries were free to adopt any type of exchange arrangements ranging from “continuing to peg their currencies rates to the US dollar, to allowing the rate to be freely determined by private exchange markets without official intervention.” The concept of explicit surveillance introduced in the 1978 amendment to the IMF’s Articles of Agreement was based on the idea that good international behaviour depended not on whether a country maintained a fixed rate or a float or a peg to another currency, but rather on the policies that the country actually followed.

The principles and procedures that guide Fund surveillance over exchange rate were established by the amendments to Article IV and by a 1977 decision of the IMF Executive Board. These guidelines specify that the IMF shall monitor whether members are abiding by a “code of conduct” in their external monetary relations or pursuing unwarranted monetary or fiscal policies for balance of payments purposes. The guidelines also specify that the IMF shall monitor whether changes in a country’s exchange rate system seem to be warranted by underlying economic and financial conditions. Such appraisals are to be made against the backdrop of the general economic circumstances facing the country. Surveillance thus has come to require a broad and detailed economic review of member countries.

A crucial instrument of IMF surveillance is the Article IV consultation, which focuses on a systematic review of economic developments and policies in the member country and how these policies have affected the exchange rates and balance of payments with other countries. Relevant structural policies are also examined if these are germane to macro-economic developments and policies. In recent years surveillance has also taken into account such topics as poverty, industrial, market and environmental issues. As financial markets around the world have become more integrated, IMF surveillance has become more focused on capital account, and financial and banking issues.

Aside from country surveillance, IMF also conducts surveillance at the global and regional levels. So far as global surveillance is concerned, the IMF’s World Economic Outlook prepared twice a year and the International Capital Markets Report provide opportunities to assess global implications of members’ policies and give an excellent analytical account of key developments in the international monetary system and its prospects.

While conducting regional surveillance, the IMF examines the policies pursued at regional levels. The IMF has also increased its participation in member countries regional initiatives.

The financial crises in Mexico in late 1994, East Asia in 1997-98, Russia and Brazil in 1998 and Turkey and Argentina in 2001 have demonstrated the spill-over effects of these on other emerging economies and have further strengthened the case for effective surveillance by IMF. It has become all too clear that in this new environment stricter policy discipline is needed to guard against adverse and rapid market reactions, including those that originate elsewhere. Experience indicates that delayed adjustment forced by markets can be more costly and disruptive than measures promptly taken. There is, therefore, a greater need for continuous policy review by all countries and for the Fund to participate more fully in the process.

In the interest of stabilising the international economic situation, the IMF should strengthen its surveillance over industrial countries. Financial policies of the major industrial countries determine to a large extent the stability of the international capital markets and a lack of balance in their macroeconomic policies and insufficient policy coordination can result in sharp fluctuations in interest rates and exchange rates. When interest rates in major industrial countries rise, capital flows to developing countries tend to decline, and might even be reversed, resulting in disruptions for developing countries. Moreover, instability in interest rates and exchange rates among industrial countries impose costs on developing countries, owing to their limited opportunities to hedge against movements in these rates.

Recent events have also clearly demonstrated that effectiveness of Fund surveillance is predicated on the timely provision of data. In this behalf, it is heartening to learn that the Fund has helped to develop and disseminate a set of standards regarding the coverage, frequency and timelines of data; their quality and integrity, and their availability to the public.Countries subscribing to this Special Data Dissemination Standard agree to adhere to these sound practices and to provide information to the public via an electronic bulletin board on the Internet maintained by the Fund.

This transparency provides market participants the information needed to form judgments on the policies and performance of subscribing countries and thereby contributes to more informed investment decisions.

In recent years, the Fund has adopted several measures to make surveillance more effective with closer policy dialogue with counties and increased focus on counties that were seen to be at risk and where financial tensions were likely to spill-over to other counties. Furthermore, Bi-annual IMF Board discussions of members’ policies in the context of surveillance have been instituted to review principal issues repeatedly surfacing in consultation with members; a report on these discussions is transmitted to the Interim committee, thus providing a bridge between the Board’s work on surveillance and the committee’s oversight role.

It is generally recognised that the sound evolution of the world economy calls for greater attention to new issues and risks. At the same time, the traditional areas of surveillance should not be neglected. To make these competitive objectives compatible, the following principles have been agreed upon by the Fund:

(a) Article IV consultations will concentrate on core topics directly linked to the Fund’s statutory mandate to exercise “surveillance over exchange rate policies of members.”

(b) Greater attention will be paid to capital account developments.

(c) Counties where developments have potential spill-over effects on others will be more closely examined.

(d) Where important economic policies are formulated at supra-national level, with potential impact on several economies, the Fund will continue to strengthen its focus on regional surveillance.
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Enjoy every moment of life.

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  #45  
Old Tuesday, May 29, 2007
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For a fair tax system

Pakistan can reduce its fiscal deficit if a comprehensive programme, scientific approach and multi-dimensional strategy is adopted for tax reforms and resource mobilisation
By Huzaima Bukhari and Dr Ikramul Haq

According to a latest report by the US Central Intelligence Agency (CIA), Pakistan under the rule of General Pervez Musharraf is still a very 'high risk country' on a number of accounts. It notes with concern the ever-increasing military expenditure (4.5 per cent of GDP) and huge fiscal deficit (against revenue of $20.55 billion, expenditure is $25.65 billion and public debt is alarming high at 55 per cent of GDP).

The poor segments of society, since the takeover by General Musharraf in 1999, have been subjected to a number of taxes, whereas the rich still enjoy tax exemptions. What makes the situation more painful and shocking are the unprecedented non-development expenditures. In Budget 2006, the current expenditure demand for Prime Minister Secretariat alone was 538.751 million rupees, and that of its Inspection Commission 20.250 million rupees; Staff Household and Allowances of the President 290.244 million rupees; for NAB alone 797 million rupees and National Assembly 1005.933 million rupees, just to mention a few.

It is deplorable to note that for servicing domestic debts, the government requires 190.78 billion rupees, for the servicing of foreign debt 48.72 billion rupees, and for foreign loan repayment 56.35 billion rupees.

Do we still need any further proof to show that our rulers wasting national revenues and resources on non-development expenditures? They have yet to learn to live within means, the figures relating to domestic debt, its servicing and new loans of billions of dollars are simply horrifying. Due to wasteful expenditure on current account and deficit financing, there emerges an artificial lack of funds for investing in social projects benefiting the poor.

The Central Board of Revenue (CBR), through oppressive tax measures, managed to collect a record revenue of 713.4 billion rupees during the fiscal year 2005-06. There is every likelihood of collecting 900 billion rupees during the current year. However, these big figures fail to improve the burgeoning fiscal deficit which is still over 200 billion rupees.

During the fiscal year 2005-2006, the budgetary gap was 610 billion rupees and the revenue deficit was 175 billion rupees. Tragically, CBR has remained unsuccessful in improving tax-to-GDP ratio which is just 9.2 per cent. Twenty years back it was 18 per cent! Indirect taxes still account for 69 per cent of total tax collection. Tax-to-GDP ratio for direct taxes is hardly 3 per cent which is a disgrace for the policy makers and tax collectors. The most lamentable aspect of prevalent tax structure gives a free-hand to industrialists, importers, contractors and traders to charge the people an amount that is far more than what they pay as taxes. They are even passing on their income tax liability (personal tax) to clients/buyers, courtesy presumptive tax regime imprudently resorted to by CBR merely to show boastful collection. Incidentally, the high level of tax collection by CBR is mainly attributable to heavy taxes on imports and export.

It is a shocking fact that even under income tax, imports and exports are subjected to presumptive tax levy, though exporters may not have taxable income due to huge depreciation allowance after massive investment in plant and machinery. The State Bank of Pakistan has given a free hand to banks to exploit account holders and borrowers. Now these exploitative money lenders are showing extraordinary profits by denying due share to deposit-holders and are paying taxes in billions to CBR instead of distributing profits to deposit-holders with whom they, under the law are maintaining accounts on 'profit and loss sharing basis'. At present, importers, contractors, retailers and even service providers (except companies) are, in fact, passing on their tax burden to consumers and clients. This erratic taxation is at the expense of equity and those poor people who are the actual victims of tax highhandedness.

Fiscal policy in Pakistan has become a tool of oppression and the poor people are the real victims. Direct tax revenues have increased from Rs 40 billion in 1990-91 to over 270 billion this year, whereas in reality they have been turned into indirect tax through presumptive tax regime. In a federation like Pakistan, levying of taxes on goods and services within respective territories should lie exclusively with the provinces. Our federal government has even violated the constitutional command by levying taxes on services and property under the garb of Income Tax. This is the worst example of 'federal highhandedness' where the victims are the poor people of the less privileged provinces. The constitutional responsibility of distributive justice and social equality has been altered, only to show higher collection of tax in pursuit of fixed targets by the federation. The provinces have been made dependent by not extending due taxes rights and also being deprived of correct net tax proceeds in utter violation of formula given in the supreme law of the land. Resource mobilisation at federal and provincial levels should have been priority number one, but our rulers are looking towards foreign donors to construct big dams and are selling profitable national assets at throwaway prices to earn hefty commissions.

If we want to dismantle the present exploitative tax system and remove economic inequalities, the main strategy in the forthcoming budget must be to achieve the goal of reducing/eliminating the fiscal deficit to a level of 2 per cent to 1.5 per cent of the GDP, at any cost. Our revenue collection should not be less than 2 trillion rupees in the next financial year. There is no justification whatsoever to reduce development expenditure, which is already dismally low. Fiscal adjustment through reduction in development expenditure will not solve our problems. There is a dire need to reduce non-developmental, wasteful expenditure, but the real salvation lies in resource mobilisation. Broadening of tax net is the need of the hour without forgetting that those who enjoy exemptions and concessions should be brought into net. Existing taxpayers are grossly under-reporting their incomes, should be tackled with skillful policies (carrot and stick!) by gradually making them pay taxes correctly.

The rich and mighty who do not pay taxes are the real culprits. Exemptions and concessions that are prevalent in our tax laws (the whole of Second Schedule in the Income Tax Ordinance, 2001, most of the items of Sixth Schedule of Sales Tax Act, 1990, and innumerable SROs relating to Customs and Excise) should be done away with. There should be a level playing field for everybody. A wise step will therefore be to immediately abolish these exemptions and concessions instead of increasing incidence of taxes on the common people of Pakistan. The process of industrialisation, which alone can provide more jobs and sustainable growth, investment in unproductive sector like real estate and capital market should be heavily taxed and funds should be diverted to meaningful sectors by lowering corporate tax rates.

If the government removes all these exemptions and concessions, provides proper incentives for industrial investment, brings big absentee feudal landlords into the tax net, manages to get taxes from the influential ones and succeeds in imposing GST across the board (preferably with a low rate of 2 per cent at one single point), there will be no budget deficit, rather we will have surplus in three years. This goal can only be achieved if the government simultaneously tackles issues related to tax evasion and rampant corruption in the tax machinery (by not just dismissal from service but rather by making the system workable and just).

The present tax machinery is not only corrupt (part of the blame goes to the State as no reforms have been made to improve their economic lot and working conditions) but is also inefficient, incompetent and ill-equipped to increase the revenue. Radical changes are needed to:

(a) Revamp the entire tax apparatus.

(b) Improve both structural and financial conditions of tax machinery.

(c) Make CBR and independent Board answerable to Parliament. It should be an efficient, people-friendly and service-oriented organisation aimed at solving taxpayers' problems by giving them proper guidance and counseling and not harassing them for self-aggrandisement. There should be a complete change in the image of tax machinery, which is presently considered as corrupt, inefficient, exploitative, oppressive and a callous apparatus.

(d) It should be remembered that introducing irrational, harsh and unjust tax measures cannot broaden the tax base. Justice, fairness and equity, instead of fixing unreasonable budgetary targets should be the main concerns of our tax policy.

Pakistan is quite capable of substantially reducing or even eliminating its fiscal deficit within a short span of time provided that a comprehensive programme, well-designed work plan, scientific approach and multi-dimensional strategy is adopted for tax reforms and resource mobilisation. We need a fair and equitable tax system which should be managed by honest professionals, who are accountable by a select committee of Parliament, and are free from governmental controls.



The writers (www.huzaimaikram.com) are leading tax advisers and authors of many books and articles on taxes in Pakistan.
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  #46  
Old Tuesday, May 29, 2007
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Rentier elite
The authoritarian and rentier nature of Pakistan's ruling elite has been both the cause and effect of the political conditions in which the state finds itself

By Dr Ayesha Siddiqa

The other day someone asked me why there was such a difference in the political conditions of India and Pakistan. India with its established democratic norms is on the opposite end of the political spectrum to Pakistan. Again, while India had managed to get its first constitution within four years of its independence, it took Pakistan about nine years to achieve the same objective and even that was scraped within two years of its making. Is it because the Indian leadership is more sagacious than Pakistan's or is it that the people there are better than what we have in this country?

The difference becomes glaring particularly when we realise that the basic chemistry of the people is similar. The common man of the two countries is almost similar or at least they started out from the same starting line. So, what went wrong with Pakistan that it never managed to establish democratic norms or strengthen civilian institutions?

The answer lies in the nature of the ruling elite which in Pakistan's case was always authoritarian and rentier in nature. The nature of the elite was both the cause and effect of the political conditions in which the state found itself.

The fact is that authoritarianism has always flown in the veins of the country's leadership. Although it is considered sacrilege to question the country's leadership, especially those who established the state, the fact is that none of the decisions taken in the early years reflected any sensitivity for democratic norms. The decisions to annex Kalat or to dismiss the provincial government in the frontier province or engaging the military in a conflict with India are highly questionable. According to the famous Pakistani historian, Ayesha Jalal, such decisions were necessitated by the need to consolidate a fragile country. However, the fact of the matter is that these were precisely the decisions which embarked the polity on its peculiar course from which it could never extricate itself.

The leadership, which followed, was no different. The first popularly elected government that followed after thirteen years of military rule was not inclined to follow democratic principles. In fact, as soon as the 1973 Constitution was made Bhutto started introducing amendments to the constitution. Moreover, he erred by involving the military in political issues thus giving the armed forces the confidence to take over the reigns of the government again.

Such authoritarianism of the ruling elite got a fillip during the early years due to the formulation of a patron-client relationship. The hostility with India required strengthening of defenses and forging alignments which could then be used to keep a belligerent bigger neighbour at bay. Perhaps, it could be argued that Mohammad Ali Jinnah did not envision hostile relations with India. He had, as sources suggest, retained his house in Bombay where he planned to return and settle down after partition. In his imagination, life would return to normal after the two countries were made. Such a plan did not reflect an appreciation of realpolitik or realities of partition. Jinnah was certainly not prepared for the carnage or for getting a Pakistan truncated due to the absence of Kashmir.

The war of 1947, which was meant to complete Pakistan, had far reaching implications for the country. It not only created a festering wound for both countries, but it also created conditions which pushed Pakistan into a system of global patronage.

This system refers to the patron-client relationship developed with the West. The earlier leadership including Jinnah was keen to woo the US as a balancer of power. A patron-client relationship was finally established during the end of the 1950s when Pakistan joined two US-sponsored military alliances, SEATO and CENTO. Pakistan's military had agreed to fight the Communist threat on Washington's behalf in return for money, weapons and political patronage. Issues such as the Rawalpindi Conspiracy were flagged to get American attention and to justify an alignment with the West. People were told that there was a real threat of Communism to Pakistan.

Twenty three years later, a similar argument was made by Zia-ul-Haq while re-establishing a strategic alignment with Washington. In a mercenary fashion, the military and the ruling elite agreed to serve American interests as long as Washington could guarantee relatively free flow of financial and material resources.

The same equation was struck by General Musharraf after 2001. There are many who argue that Pervez Musharraf should have evaluated the situation and behaved in a more constrained manner than what he eventually did. There are others who argue that a political government might have behaved a bit differently. However, both these arguments miss out on a fundamental reality that nothing would have changed the situation. Being rentier in nature, the elite has always jumped at opportunities to offer its services in return for American patronage. Of course, with international crises, which have implications for American security, the rent of Pakistan's rulers and its military always goes up. The military, in particular, is a direct beneficiary of the patron-client relationship because it is the only institution which can contribute the maximum to fulfilling American security objectives. Whether it is fighting Communism or Jihadis, or providing bases to American forces against the Soviet Union, Iran and others, Pakistan's military has always been the best option. Therefore, it is not surprising that the US has been more forthcoming in rendering support to the military and military regimes in Pakistan.

The above argument raises a vital question regarding issues on which the rulers have not delivered such as rolling back the nuclear programme or handing over AQ Khan to the US. These tricky issues do not necessarily denote divergence of views, but the domestic compulsions of the rentier elite. The arrangement between the patron and the client requires for the latter to have sufficient domestic control besides having the ability to deliver according to American strategic objectives. A restless mass of people can become problematic in delivering to the external patron. The issue with domestic control, however, is that it can be ensured through a combination of coercive tactics and acquiring some political legitimacy. The latter is achieved through creating an impression that the elite can deliver certain goods and services which are fundamental to the survival of the people and the state. This means propagating military security as essential for the survival of the state or to propagate that the state and its ideology is under great threat.

Pakistan's nuclear programme, its India policy or the Islamic agenda are essential ploys for gaining legitimacy at home. In the absence of commitment to socioeconomic development, such policies or popular agendas are critical in getting public support. The elite make people believe that they are getting their money's worth. Hence, these are the very issues on which a blatant comprise cannot be done.

The external patrons understand the compulsions of their clients and do not push them beyond a certain point. The upshot of my argument is that the patron-client system is designed to ensure greater accountability to the external patrons instead of the domestic audience. Devoid of any sense of responsibility to the people, the ruling elite is under no pressure to introduce political accountability or ensure socioeconomic development. Consequently, domestic politics in Pakistan has become nothing but an immoral game of realpolitik which lacks the capacity of bringing substantive changes within.
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Here and now
As the current wave of politicisation happens to be coinciding with the upcoming announcement of the budget, there could be no better time than now to bring the defence budget into the spotlight

By Aasim Sajjad Akhtar

The political space that exists during a period of popular uprising demands the raising of radical demands and political programmes that stretch the imagination of the mass of people yearning for change. Working people across the country, particularly in urban areas, are waiting in earnest for a clear alternative to status quo. In spite of the fact that the overall political environment has become considerably more charged over the past two months, many people still wonder whether anything substantive will really change when Musharraf & co. finally abdicate.

The chances of substantive change in the short-term are admittedly limited. But this of course does not mean that the political discourse cannot be radicalised so that the objective of substantive change itself dominates the longer-term agenda. And arguably the most important aspect of this process will be challenging the national security paradigm that remains the most crucial pillar of the military's political project.

The current wave of politicisation happens to be coinciding with the upcoming announcement of the budget, and thus an opportunity presents itself to address several outstanding structural features of the official cost-accounting exercise. Even if we cannot address all of the closely interrelated aspects of our public income-generating and expenditure exercises, there could be no better time than now to bring the defence budget into the spotlight.

One of the reasons why so much resentment has built up against this present government is the extensive -- and somewhat undisguised -- nature of the military's independent corporate activities. Ordinary working people have now come into direct conflict with the military over arbitrary land grabbing, and many other such intrusions of the men in uniform into the public sphere. Civilian bureaucrats -- including those in the upper echelons of the administrative apparatus -- despise those serving and retired military officers who have displaced them. The whole country is painfully aware of the manner in which this government has reinforced the military's growing economic power, and penetration of social life more generally (importantly an exhaustively researched book on the military's corporate empire by Dr Ayesha Siddiqa has just been released, which proves beyond a shadow of a doubt just how deeply entrenched an economic force the wardi walas actually are).

However, there was a time before the creation of this vast empire when the military relied almost exclusively on the official defence budget to meet its corporate needs. And till this day, the defence budget remains a symbol of the military's domination over the economic, political and ideational structures of the polity. Much hay has been made of the fact that the share of the budget dedicated to military expenditures has decreased in recent years, but this is a function of number-fudging and other technical shenanigans rather than a reflection of a genuine reconfiguration of our allocative priorities. Much of what is spent on defence is hidden from public view (read: not reflected in the official budget) in any case, and over the past few years, pensions to military men have been shifted to the civilian pension head in the budget (it was recently reported that 80 per cent of the expenditure under this head goes to military men).

Thus this is the time and place to raise again what has been a long-standing demand of many principled political and social activists in this country, namely that details of the defence budget should be presented to the general public in broad daylight and that this budget should be subject to open debate (to the extent the last few budget debates have actually been anything more than a tokenism).

Perhaps more importantly there should be a clear demand for the defence budget to be slashed in accordance with the government's supposed commitment to establishing peace in the region. Indeed, a detailed investigation into what constitutes the defence budget will reveal such a significant portion of it being channeled to meet 'non-combat expenditures' that the demand for a substantive reduction in the defence budget will be stating the obvious.

Even beyond this there is a need to revisit the logic of national security and the obsession that many of us continue to have with the imperative of guarding our frontiers. There is no immediate threat to our territorial sovereignty, and, as a matter of fact, there rarely has been at any stage over the past 60 years. Instead, under the guise of establishing military parity with India (which is impossible in any case given how much bigger that country is), we have totally surrendered our political and economic sovereignty by becoming economic dependencies of the US and more recently of the international financial institutions.

These are all clear assertions of our political reality that need to take centrestage now. They have a direct bearing on the longer-term struggle for an end to oligarchic rule. And they do strike a chord with working people who are less and less tolerant of hyper-nationalist invocations of the 'greater national interest'. Since the 18th of May, in the middle of the working class area of the federal capital, Aab Para Chowk, a 65-year old political worker has set out his stall pledging to hunger strike till death, vowing that he will keep at it until mainstream opposition parties vow to slash the defence budget if and when they come to power. Every evening hundreds of people gather around and listen intently to the very compelling logic of this man with a cause.

There are undoubtedly many more such acts of individual and collective defiance that can and will continue to come to the fore so long as the current wave of politicisation persists. It is in such an environment that the mainstream parties have been compelled to radicalise their public utterings and demonstrations of power. Things will not remain this charged indefinitely but for as long as they do, it is crucial that no opportunity to dissent against the established order is lost. The budget in particularly presents a heaven-sent opportunity to expand the base of a movement that has predominantly been viewed as a battle over the meaning of rule of law.

The generals will sooner or later need to part company with Musharraf, making him the fall guy so that the military as an institution can be protected from as much of the public glare as it possibly can. But more and more people are becoming aware of the fact that the problem is not with Musharraf's person as much as it is with the military's domination of political and economic life. This needs to be said as openly as possible, in as many different ways as possible, and with as much fearlessness as has been exhibited by the thousands who have already emphatically said no to dictatorship. What better place than here, what better time than now?
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Pakistan's Public Debt: A brief overview-I

EMMA XIAOQIN FAN

ARTICLE (May 29 2007): Public debt is an important means of bridging government financing gaps. Effective and efficient utilisation of public debt can increase economic growth and help a government to achieve its development and social objectives. However, public debt is also a doubled-edged sword.

Excessive reliance on public debt and inappropriate public debt management raise macroeconomic risks, impede economic growth, and hinder economic development. For example, high public debt demand can increase the domestic interest rate thereby crowding out private investment.

An escalating external public debt stock increases the probability of default, raising the interest risk premium charged by creditors. High interest payments further enlarge a country's public debt obligations, accelerate budget outlays, and squeeze capital investment and social expenditure.

In extreme cases, governments can be forced into defaulting on public debt, which tarnishes a country's international reputation and makes further borrowing difficult, whereas magnetisation of public debt generates high inflation. Both of these actions are likely to precipitate capital flight and spark financial crisis.

This note briefly examines the public debt situation in Pakistan. The objective is to understand the assistance from multilateral sources, especially from the Asian Development Bank (ADB), in a broader context. The note pays particular attention to external public debt in the country.

2. PUBLIC DEBT SOME CONCEPTUAL CONSIDERATIONS: Public debt can be examined from the sources, the uses, and debt management perspectives. In debt financing, government can borrow from a number of sources, including the central bank, domestic commercial banks, domestic non-bank sectors, and external sources.

Government usually utilises a number of options at the same time. Public debt raised through different sources has different macroeconomic implications. Borrowing directly from central banks is equivalent to printing money. It increases the high power money which in turn translates into monetary expansion.

This approach is thus highly inflationary and generally discouraged. Borrowing from domestic commercial banks is less inflationary, although it may crowd out private investment. Government borrowing from the non-bank private sector has no effect on the money supply and hence no implications for interest rates and inflation from the supply side. However, the debt held by people can exert an upward pressure on interest rates from the demand side. Borrowing from abroad has become a major feature of developing countries. Foreign borrowing allows a country to invest and consume beyond the limit of current domestic production, and can be conducive to economic growth. However, excessive reliance on foreign borrowing exposes a country to numerous risks (Hanif 2002).

THE USE OF PUBLIC DEBT ALSO HAS ECONOMIC IMPLICATIONS: Generally speaking, financing capital and development related projects can help a country to build its production capacity and facilitate economic growth. In particular, borrowing from external sources enables a country to finance capital formation not only by mobilising domestic savings but also by tapping into foreign capital surplus.

Foreign borrowing can thus lead to more rapid growth. For example, Siddiqui and Malik (2002) found that foreign borrowing increased resource availability and contributed to economic growth in South Asia. However, excessive foreign borrowing and its improper use generate severe debt service obligations and can constrain economic policies and growth.

A country's debt management program needs to take into consideration both the source and use of loans so as to raise and utilise the debt in ways that benefit a country's long-term development. Debt management is the process by which the government aims to acquire and utilise the debt efficiently and effectively. Debt management strategies not only need to explore new and cheap sources of finance, but also to consider the proper use of borrowed funds.

The technical aspects of debt management focus on the need to determine the level of financing requirements and to ensure that the terms and conditions placed on borrowers are commensurate with their future debt servicing capacity. The institutional aspects of debt management deal with organisational, legislative, accounting, and monitoring aspects of new borrowing as well as the total stock of debt. The availability of funds and the market conditions are important for the choice and design of borrowing instruments (Hanif 2002).

A key to external debt management is debt sustainability. This term refers to the level and combination of debt which allows a country to meet its current and future debt service obligations in full, without recourse to debt relief and rescheduling, and avoiding accumulation of arrears. Sustainability of debt is a situation where the debt-to-income ratio declines, or at least, remains constant over years.

A general consideration is that for the debt ratio to remain unchanged, the budget deficit does not have to be zero, but it must not push the debt to increase faster than GDP. Thus, the conventional wisdom does not consider public debt per se as a major problem. Rather, the core problems are the mismanagement and/or unsustainable nature of public debt (Hanif 2002).

There are various indicators for determining a sustainable level of external debt. Broadly, there are two types of debt indicators that assess the country's debt sustainability position: solvency and liquidity indicators. The solvency indicators include ratios such as debt to GDP, debt to foreign exchange earnings, debt servicing to foreign exchange earnings, and the public debt service to current fiscal revenue ratio.

These measures reflect the country's ability to service its external obligation on a continuing basis. The liquidity indicators include ratios such as reserves to short-term debt and reserves to total debt. They reflect a country's liquid assets that affect the ability to service its immediate external liabilities.

(To be continued)

(Emma Xiaoqin Fan is a Senior Public Resource Management Specialist in the Pakistan Resident Mission of the Asian Development Bank.)
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Pakistan's Public Debt: A brief overview-II

EMMA XIAOQIN FAN

ARTICLE (May 30 2007): Public Debt in Pakistan: Pakistan entered the 21st Century with serious financial problems. Public debt exceeded 90% of its GDP, over 600% of its annual revenues, and debt servicing accounted for over half of current revenues. In 2001, Pakistan was the only country in South Asia to be classified as a severely indebted country by the World Bank.

Due to the inability to service external debt, there were two consecutive rounds of debt rescheduling by Paris Club members and one from the quasi-London Club between 1998 and 2001. Pakistan had to seek exceptional financing arrangements from the International Monetary Fund in January 1999, after facing a severe balance of payments' crisis. This outcome was the result of persistent and rising fiscal deficits, stagnant export receipts, declining worker remittances, and large current account deficits.

The Pakistan economy has experienced a turnaround since 2000. Growth has accelerated, and most macroeconomic indicators have improved. Public debt indicators have also shown significant improvement.

Modest growth in public debt, coupled with the strong growth in nominal GDP, led to a significant fall in public debt to GDP ratio, from 81.4% in 2001/02 to 56.1% in FY 2006 (Table 1). Over the same period, domestic public debt to GDP ratio fell from 40.4% to 29.9%, while the external public debt to GDP ratio fell from 41.0% to 26.2%. In fact, FY2005/06 is the fifth successive year that the public debt to GDP ratio has improved. This is also the first time in more than two decades that the ratio has fallen below 60%. The Fiscal Responsibility and Debt Limitation Act, 2005 envisaged a debt to GDP ratio of 60% by FY13. The actual achievement has thus exceeded the target in the Act (IMF 2006).

The improvement in the public debt to GDP ratio in FY06 was due to the fact that both domestic and external debt grew slower than GDP. The growth in domestic debt has been slightly faster than that of external debt. It rose by about 5.9% while external public debt grew by about 5.0% relative to the previous year. Total public debt stock stood at around $72 billion, about 5.5%, higher than the previous year, of which domestic public debt consists of about $38 billion. As a result of a stronger rise in domestic debt, the share of external public debt in total public debt decreased from 50.4% in FY2002/03 to 46.7% in 2005/06.

The debt servicing capacity of Pakistan has also improved over the past few years. As growth in foreign exchange earnings in Pakistan outpaced the growth in debt servicing payments, external public debt servicing as a share of exports of goods and non-factor services declined from 35.8% in 2001/02 to 14.1% in 2005/06. The external debt service to gross reserves ratio has declined from about 70% in 2001/02 to over 20% in 2005/06. International reserves act as a cushion against fluctuations in foreign exchange earnings.

Pakistan's external debt is predominately long and medium term debt. Over 99% of public and publicly guaranteed debt is over one year. Pakistan acquired about US $3.3 billion long-term loans in FY 2005/06, of which about $1.7 billion reflects the long-term flows from ADB and the World Bank.

While approximately $1.7 billion in loans were committed by international donors for the earthquake fund in 2006, the actual disbursement was limited to US $768 million, of which $673 million of the disbursement came from the ADB and World Bank. The remaining multilateral loans disbursed in FY06 were mainly to support poverty reduction and economic reforms.

The ADB disbursements in FY06 included $60 million and 70 million for social services programs to the Punjab and Sindh Governments respectively to improve the quality of human capital, specifically in education and health. Another ADB loan of $80 million was disbursed under the financial markets and governance program. Punjab received $199 million from the World Bank for education sector reform. The World Bank also disbursed a loan of $102 million for Punjab irrigation/policy-II and $69.5 million for NWFP (SBP 2005).

Clearly, the loans from the ADB and the World Bank play an important role in the government's external debt financing. The relatively high share of the multilateral loans calls for sound program/project design and implementation in order to yield the maximum benefits to the country. Indeed, the multilateral development banks are the largest creditors for Pakistan's external public debt, totalling about 51% of total public external debt in FY2005/06.

This is followed by the Paris club which accounts for about 39%. In recent years, the outstanding stock of Paris club debt declined, partly due to debt write off. Debt from other sources has been relatively small. Despite this, activities from bilateral agencies have also increased.

Pakistan also accessed the international capital market to raise funds through the issuance of Euro Bonds in FY 2006. This raised $800 million which consists of 10-year bonds of $500 million and US $300 million in 30-year bonds. The issuance of the Euro bond not only addresses the government's finance needs, but also helps to establish a long-term sovereign benchmark that would help local corporate enterprises access global markets.

4. FACTORS UNDERLINING THE IMPROVED DEBT INDICATORS IN PAKISTAN AND ISSUES The improvement in the debt indicators reflect acceleration in economic growth, improvement in fiscal conditions, increases in export earnings, and higher capital inflows. In particular, external conditions have become more favourable to Pakistan since September 2001. This has enabled relief of public debt amounting to about $3.7 billion between 2001 and 2003.

Coupled with debt rescheduling, this has significantly reduced Pakistan's debt servicing burden. There have been increased official transfers, especially between 2001 and 2004. Total official transfers amounted to about $4.5 billion from 2001 to 2006. Workers' remittances have also increased significantly, averaging around $4 billion a year during 2003-2006 compared to about $1.5 billion in the 1990s. These factors have reduced the need for external borrowing.

There has been a particularly noticeable increase in foreign direct investment (FDI) in Pakistan in recent years, reflecting the country's privatisation programs and increased investor confidence. FDI rose from $483 million in FY2002 to $3.5 billion in FY2006. The first half of FY2007 saw a further 64.6% increase to $1.9 billion.

The sale of the Karachi Electric Supply Company and the partial sale and transfer of management control of Pakistan Telecommunication Company Limited revitalised the privatisation process in 2006. FDI inflows, excluding privatisation, also rose by 70% in 2006. Strong foreign demand for Pakistani assets (including from oil-exporting countries in the Gulf region) was also reflected in the favourable terms for new bond placements in international capital markets. The FDI and other capital inflow have more than offset the current account deficit, and resulted in payments surplus of over $1 billion in 2006.

While Pakistan has significantly improved its economic performance and the debt situation, strong efforts must be made to guard against potential risks. First, the improved debt indicators in Pakistan are closely linked with favourable external conditions. To sustain sound economic performance over the long term, Pakistan must maintain political and economic stability.

Economic reforms must go on apace to sustain and improve domestic and foreign investors' confidence. A sound policy environment that attracts sustained FDI inflow is particularly important given that FDI involves long term financing and is not susceptible to sudden withdrawals. Creating a conducive policy environment for increased domestic investment is also a key.

Second, coupled with strong capital inflow, the current account deficit has increased since 2005. In FY2006, the current account deficit, excluding official transfers, more than tripled to $5.7 billion, or 4.4% of GDP as import growth outstripped export growth because of higher oil prices and strong domestic demand.

Privatisation proceeds, official grants, and portfolio investment together financed 45.3% of the current account deficit. The rising current account deficit per se is not necessarily a problem. For example, strong domestic capita formation can lead to increased demand for capital goods financed by capital inflow.

Singapore had run current account deficit for more than 10 years during its rapid industrialisation period. To a certain degree, a current account deficit and balance of payments surplus indicate the strengths of the domestic economy and the confidence of foreign investors in the domestic economy.

However, increased current account deficits raise concerns about the sustainability of financing large deficits in the medium and long term if the capital inflow is not significantly contributing to the increased productive capacity and efficiency of a country.

Third, the large inflow of official assistance and workers' remittance also poses the risks of Dutch Disease in that high capital inflow can lead to real exchange appreciation, rendering domestic tradable sectors, especially the manufacturing sectors, less competitive. The utilisation of foreign aid thus must be geared towards spending on increased productivity and to provide a conducive environment for private sector development while avoiding the fostering of a bloated public sector.

5. CONCLUSIONS: This note briefly reviewed public debt information for Pakistan. It reveals a number of important features. First, the public debt situation is closely related to broader economic performance. Accelerating economic growth, improving fiscal conditions, increasing export earnings, and increased foreign direct investment have provided the foundation for improved debt management in Pakistan.

Second, the improved debt situation is also attributable to more favourable external conditions for Pakistan since September 2001. This has led to debt relief and rescheduling, and increased official inflow and workers remittances.

While it has helped the country to achieve a significant improvement in debt indictors in the short run, it also exposes Pakistan to risks relating to the sustainability of both economic performance and debt management.

Third, in order to sustain and build on its existing achievements, Pakistan needs to deepen its structural reforms to improve the domestic investment environment, external competitiveness, sustain macroeconomic stability, and maintain political stability.

Reforms that improve a country's creditworthiness and investment climate are important for improving domestic savings and investment, attracting FDI, and diversifying the financing sources.

FDI is especially important because it not only brings in finance, but also contributes to technology transfer and improved management know-how. Pakistan has had considerable success in attracting FDI in FY06. However, much can be done to improve on this performance in the years ahead.

Fourth, sound public debt management supports macroeconomic stability and economic growth. Debt management should take advantage of favourable economic conditions to strengthen the technical and institutional capacity in managing public debt.

Fifth, multilateral development banks play an important role in lending to the Government. This calls for sound project and program designs and implementation to enhance the effectiveness of development assistance. Introducing innovative and efficient assistance approaches and practices in response to the changing context of economic development is especially important.

The recent economic development and developments in external debt show that Pakistan is at a cross road. The strong economic performance, including the improvement of the public debt situation over the past few years, if sustained, can put Pakistan on a sustained growth path. But there are real challenges and risks that need to be managed carefully. Maintaining political stability, sound macroeconomic management, and structural reforms are key for Pakistan to move forward.
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Alarming rise in food inflation

EDITORIAL (May 31 2007): The SBP inflation monitor for April, 2007, released the other day, has recorded 9.4 percent food inflation, as against 3.6 percent in April last year, representing an alarming almost three-fold rise in food prices.

Of the total 124 commodities included in the food group, the prices of 47 items such as eggs, some fruits, cooking oil, different types of rice, chicken and some vegetables registered an increase, ranging from 10 to 100 percent. However, the non-food inflation declined to 5.2 percent during the month from 8 percent in April last year.

According to the SBP monitor, the general CPI inflation rose to 6.9 percent in April 2007 on year-on-year (YoY) basis from 6.2 percent, as registered in the corresponding month of the last year. The higher CPI inflation is due to strong food inflation that has muted the impact of declining non-food inflation, says the SBP report.

The bottom line is that the declining trend in non-food inflation this year has been offset by a galloping rise in food inflation, with the result that CPI inflation has remained at a higher level than the FY2007 target. The worst hit segment is 74 percent of the population, which lives on two dollars a day. The purchasing power of the low-income groups has been further curtailed by the food price inflation.

Meanwhile, speculators and hoarders, ever vigilant to exploit the negative market trends, have been creating artificial shortages to cash in on the self-created crisis by pushing up prices of kitchen items. By the way, food inflation is probably considered the worst form of inflation as it unsparingly targets the poorest and most vulnerable sections of society by eroding their household budgets.

Viewed in the overall perspective, inflation can have a number of adverse consequences for the economy. First, it erodes the purchasing power of the population and hence leads to a contraction in economic growth. Linked to it is the increase in macroeconomic instability as an inflationary environment generates many uncertainties. Secondly, inflation has a regressive impact on the poverty profile of a country.

Frequent increases in overall prices hurt the poor more as the size of their consumption basket is significantly reduced due to every inflationary bout. Thirdly, inflation can damage a country's competitiveness by leading to an appreciation of the local currency, and a consequent overvalued exchange rate, which will have a negative effect on exports. According to available data, Pakistan's annual average inflation rate (using the GDP indicator) from 1980 to 1993 was 7.4 percent.

However, the acceleration in inflation in the mid-1990s reversed this trend. With the overseas sale of manufactured goods falling, the government seems to be focusing on export of foodgrains at the cost of the poor. Incidentally, the recent ECC decision to suspend wheat export was taken only after firm representations were made by Sindh government and the flourmill owners over a spurt in wheat and flour prices in the local market.

A distribution of price change meanwhile suggests that 15 out of 43 food items witnessed a rise of over 10 percent in inflation during the month under review. While six items recorded moderate inflation of five to 10 percent, other 11 items demonstrated subdued inflation of up to five percent. According to one analyst, the combined weight of commodities with double-digit inflation was about 42 percent of the food group. There is a widely held perception that after securing reasonable quantum of exportable surpluses in agriculture, the government is contemplating earning additional foreign exchange, wheat export ban or no ban.

We believe that the problem in fact lies with a distorted supply chain, and not with the inadequate or insufficient availability of essential food items in the market. Price manipulation through hoarding and use of other illegal practices is mainly to blame for the high inflationary trends in the country. Not only is the government required to help people with surplus money to find productive avenues for their capital rather than create artificial shortages through hoarding and black-marketing, it should address the problem of supply chain distortions. Only then can it help solve the problem on a permanent basis.
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