Why we are poor, and how to defeat poverty?

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Why we are poor
By Dr Muhammad Yaqub

The News, Sept. 12, 2011

There are several studies done by the international organisations and specialists that indicate widespread and rising poverty in Pakistan. The Human Development Report of the United Nations places Pakistan at 125 out of 169 nations in overall standing in the human development index.
Applying the standard criterion that a person earning less than $2 (Rs172) a day would be considered poor, more than half of Pakistan‘s population is estimated to fall in that category. The other estimates of the level of poverty range from the low of about 25 percent to a high of 43 percent of the total population. Even at the lower end, it means that about 45 million people are living below the poverty line. Moreover, the national average of poverty conceals a substantial variation between regions and classes of people. Poverty is higher in rural areas and among women, and there is proportionately more poverty in the interior of Baluchistan, Sindh and Khyber-Pakhtunkhwa.

The fundamental question is as to whether the high and rising level of poverty is a natural phenomenon reflecting inherently inadequate resource endowment or it is a man-made phenomenon generated and propagated by social and political structure and economic policies that keep a large majority of the people poor?

At the time of independence, the areas falling in Pakistan were largely agricultural; the land was fertile, canal irrigation system was fairly developed, and there was abundance of ground water, mineral resources and hard working manpower. What was needed was initiation of a set of coherent and comprehensive long term policies for agricultural and mineral development to exploit the full potential of the country’s natural resources for the benefit of all its citizens, and economic and social programmes in the public sector for the welfare of the majority financed with taxes collected mostly from the relatively rich.

The first order of business of the government should have been to take measures to change the pattern of land ownership left behind by the British colonists. No meaningful attempt was made at reforming the land ownership pattern and exploitative tenancy practices. Moreover, the rulers distributed the state land for political patronage. The pattern of ownership of agricultural land, exploitation of landless workers by absentee landlords, anti-growth agricultural policies and neglect of input needs for output expansion in agriculture retarded agricultural development.

Agricultural pricing policies in the earlier period had unfavourable terms of trade for agriculture leading to income transfer from rural to urban areas. Whatever income was left in the hands of the agricultural community was usurped by the landlord class due to concentration of land holdings in their hands and their overwhelming influence in decisions for income sharing. These factors, along with rapid population growth, led to disguised and open unemployment, and poverty increased in rural areas. The rural labour force began to migrate to cities in search of jobs but ended up living in urban slums, creating opportunities for their exploitation by the emerging industrialist class.
The industrial development was initiated behind high tariff walls and widespread tax concessions and tax holidays, and without any effective legal or social protection to industrial workers. Moreover, licensing of industrial projects was used as a vehicle for political patronage and corruption, particularly under a regime of overvalued exchange rate and subsidised foreign financing. Accordingly, the new industries earned huge income without due share in it of the working class and without adequate tax payment to the government. Thus, the industrial policy quickly created a rich industrial class that had a major hold on the industrial assets and urban wealth at the cost of industrial workers residing in slums and ordinary consumers that ended up paying high prices for domestically manufactured items of daily use due to the protectionist economic policies.

The resource mobilisation measures of the government and its expenditure priorities were also equally responsible for slow economic growth, high price inflation and widespread poverty. The government mainly relied on indirect taxes and borrowing for budget financing rather than developing a transparent and broad-based elastic tax system, meeting the requirements of horizontal and vertical equity. The incidence of indirect taxes and inflation fell mainly on the poor. Heavy and persistent reliance on expensive internal and external borrowing added to the burden of the budget that was met disproportionately by the poor through a regressive tax system and inflation. It is an established fact that indirect taxes and taxation through inflation are the cruelest form of taxation hurting the poor most.

On the expenditure side, particularly in the early period, defence consumed a large proportion of the meagre budgetary resources and whatever spending was done on civilian projects benefitted the richer segments of the society. Instead of building farm to market network of roads and creating other infrastructure for agricultural and mineral development, the government spent a large amount of resources in building motorways for high speeding vehicles, airports, other prestige projects and urban infrastructure mostly for use by the minority of the rich, and mostly confined in the Punjab, Karachi and a few other large cities. Additionally, instead of increasing spending on education and basic health facilities, and providing clean water to the majority of the population, resources were spent in building a new capital, hill top estates for the comfort of the president and the prime minister, bungalows for the herd of ministers, centrally air-conditioned government secretariats, posh residential accommodations for parliamentarians and civil and military bureaucracy, and rest houses of all sorts all over the country for travelling comfort of the elite.
The heavy burden of reckless internal and external public sector borrowing that has been mostly wasted on such spending, and siphoned off by the higher echelons of the government through corruption, has gradually shrunk the fiscal space thereby inhibiting economic and social development. By now, defence and debt serving consume almost all the revenue resources of the country. Moreover, corruption and inefficiency have brought public sector enterprises to the brink of bankruptcy, being bailed out by government guaranteed bank loans at the cost of the poor. In the process, the public sector has also lost the ability to provide “public goods” to the ordinary citizens as well as trust of the people.

The monetary policy and the banking system have been an equal partner in transfer of resources from the poor to the rich. The deposit base of the banking system consists of accounts of small savers. Bank lending has been concentrated in big cities and businesses following the pattern of concentration of asset holdings. Moreover, corruption and political exploitation have meant large scale willful loan defaults and loan write off benefitting the rich and powerful. At the same time, the small savers have been given a negative real rate of return under the cover of Islamic banking and based on an interest rate policy that hurts the poor. Accordingly, the banking system has added to transfer of income from the relatively poor savers to the relatively rich borrowers. A part of the financial savings that are held mostly by the poor and lower middle class for their rainy days is then taken away annually by the government as “zakat,” which is spent mostly on political considerations or siphoned out through corruption. The poor and low income class of savers is thus exploited in more than one ways.

There is no doubt that the root cause of poverty is not lack of resource endowment but the exploitative social and political structure and anti-poor economic policies. Notwithstanding slogan mongering by various political parties and by past military dictators, economic and social polices perused by successive governments are mainly responsible for the prevalence of poverty. The widespread rural and urban poverty is a man-made and policy-induced, and not a God-created, phenomenon.

The writer is a former SBP governor.

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Defeating poverty
By Dr Muhammad Yaqub

The News, Sept. 26, 2011


In an article that appeared in the Money Matters Section of the News on September 12, 2011, I summarised the extent and causes of poverty. It concluded that successive governments failed to take steps to reduce poverty and in fact followed policies that accentuated it. By now the problem has become deeply entrenched, and a determined and sincere effort would be needed to arrest the deteriorating trend and reverse it. Whether such an effort will be mounted is an open question and would depend on the emergence of a political leadership that can usher in good governance.
The essential socio-political prerequisites for formulation and implementation of pro-poor economic policies are good governance that is practiced across the board and a strong and impartial accountability system, enforced universally. It also requires adherence to the constitutional provisions, protecting the fundamental rights of all citizens, including the right to have food, shelter and clothing.

The achievement of these prerequisites would require a change in leadership that can only be brought about by a general awakening of the silent majority and its determination to choose honest, sincere and competent leaders. They would need to bury the existing practice of voting for the so-called elite, who approach people only in the election season for votes to secure key leadership positions for self-service and plunder of the national wealth. If a sincere leadership, accompanied by good governance emerges, it should not be difficult to launch policies and programmes to redress the problems of rural and urban poverty.

In the rural economy, while at this stage land reforms may not be possible without major disruptions due to the entrenched position of the landed aristocracy, a sincere leadership can formulate polices that would achieve the same results without land reforms. These policies should cover all areas of agricultural operations including pricing policy, income sharing formula, education and health facilities and rural infrastructure.

First, the government should allow agricultural output prices to be determined based on the global prices and ensure timely availability of unadulterated agricultural inputs. The government should not create a wedge between the world market prices of agricultural inputs and outputs and the actual prices through fiscal or regulatory intervention. At the same time adopt policies to curb hoarding, black marketing and smuggling by market operators.
Second, the government should take long term measures to develop water resources for irrigation and to do water management to ensure its availability to all farmers without discrimination. Canal water supply could be priced properly and its revenue be set aside exclusively for water resource development and management. The machinery, electricity and other inputs used in farming should be preferentially treated in policy making in the same way as capital goods and raw materials are treated for industry.

Third, the State Bank of Pakistan (SBP) should stop printing notes to finance government expenditure to moderate price pressures so that the poor are no more taxed through inflation. At the same time, it will create scope for more bank credit to the private sector at reasonable interest rates. Within the larger credit availability to the private sector, the SBP should ensure increased flow of credit to agriculture. Banks should be made to at least plow back as loans in agriculture an amount equivalent to deposits that they collect from that sector. It should also provide credit for small and medium agro-based business and industry to create job opportunities in the rural areas, reducing the need for large scale migration to cities in search of jobs.
Fourth, the government should focus on agricultural research and extension services meant to help improve yield and also undertake projects that could prevent or minimise the devastation of floods and other natural calamities. Development of critical rural infrastructure to help increase market access for agricultural products would also help raise income levels of farmers.

Fifth, as these and other steps increase agricultural yields and incomes, the government should enact new tenancy laws and compensation policy for farm workers that ensure them a fair share in agricultural income. Their share in income should not be allowed to be determined arbitrarily by the landowners, who have a conflict of interest and overwhelming bargaining weight on their side.

Sixth, agriculturists making more in annual income than the exemption limit of the federal income tax should be taxed at the same rates and in the same manner as urban population. The constitutional provision of agricultural taxation being a provincial subject is used as an argument to avoid this tax. Either, the constitution be amended or its limitations overcome through appropriate adaptations to impose agriculture tax. For example, either an agricultural income tax parallel to the federal income tax could be applied by provinces or the Federal government could be used as a collecting agency to collect it by extending the application of urban income tax to agricultural income with the understanding that the revenue collected from the agricultural sector will stand transferred to provinces. The argument that lack of education and modern accounting practices will stand in the way of introduction of a modern agricultural income tax does not hold water because it will mostly be confined to landlords who do not fall in that category and could in any case be taken care of through imposition of an alternative presumptive income tax based on land holdings or produce index units. Income tax collected from large land holders could be earmarked for developing rural infrastructure and promoting welfare of rural population.

Seventh, the provincial governments should develop a provincial and local taxation system to finance compulsory free education up to high school, to develop skills that will help improve agricultural productivity, and to provide basic rural medical facilities and clean drinking water under a local self government system. At the grass root level, people should be able to see the link between tax payments and provision of education to their children, clean water supply and adequate medical facilities at their door steps.
Eighth, the rural sector should get a share in the federal and provincial development expenditure in proportion to their share in the population and proper checks and balances should be instituted to ensure their efficient and proper utilisation.

Currently, the bulk of development expenditure is used for large and mostly prestige projects in the urban sector and whatever amount is earmarked for the rural areas, it is largely wasted and siphoned off through corruption.
As regards to the urban poverty, it has its origin in lack of employment opportunities and erosion in real income of those who do have jobs due to rising inflation. The eradication of urban poverty is very much linked with macroeconomic policies that can raise the rate of non- agricultural growth and employment within the framework of relative price stability. Several policy measures can be put in place for this purpose.

First, it is important to realise that the solution to urban poverty problem does not lie in creating more unproductive jobs in the public sector and their non-merit based filling up. In fact, the size of the government should be reduced and policies strengthened to promote private sector investment. Government downsizing should begin with the federal and provincial cabinets. Similarly, the size of the civil and military bureaucracy should be reduced and wasteful expenditure minimised. Loss making public sector enterprises should be privatised. These steps will help reduce government borrowing.

Second, macroeconomic policy framework should be reoriented to encourage private saving and investment and curbing waste. At present, private sector investment is on the decline for a number of reasons including lack of security, political uncertainty and daily disruptions in the energy supply. Similarly, the rate of private sector saving is low due to inflation and other factors. Even a part of that saving is siphoned off by the government for its unproductive expenditure. The fiscal, monetary and exchange rate polices need to be refocused on promotion of private sector saving and investment. It is a growing and productive private sector that will boost employment opportunities, help cut inflation and reduce poverty.

Third, while encouraging the expansion of private saving and investment, the government should create a comprehensive legal framework to regulate the employment and compensation system in the private sector. Legislation to ensure a live minimum wage, medical and other facilities and a comprehensive social security and retirement saving system should be developed to reduce exploitation of the urban labour force and reduce poverty. Fourth, strict austerity measures on the expenditure side and broadening of the tax base on the revenue side should be taken to reduce the budget deficit and help control inflation. Inflation hurts the poor most. Urban poverty cannot be controlled without controlling inflation -- and inflation cannot be controlled without a sharp reduction in the budget deficit and government borrowing.
Fifth, the government should shift focus from housing schemes for the rich to the low income groups. Town planning for low income housing needs to be given a priority and should be facilitated in all possible ways.

Sixth, a revamping of the entire educational system is long overdue. Skills in demand in the country and abroad should be taught in schools, replacing the present system of education that produces “clerks” and unskilled workers.
If a sincere new leadership does not emerge to address the poverty problem of the majority on a priority basis, the country would drift towards class conflict, whose outcome is difficult to predict and impossible to control.

The writer is a former SBP governor.