Moment of opportunity

[HASEEB ANSARI]

Moment of opportunity
By Dr Maleeha Lodhi

In setting his priorities at the outset of his tenure Prime Minister Nawaz Sharif emphasised that the economy and energy crisis would receive his urgent attention, as would the removal of obstacles to Pakistan’s economic revival. Among these impediments, the security situation has continued to preoccupy him, even as his government has made efforts to stabilise the economy.

An early step toward economic stabilisation was the conclusion of a three-year $6.6 billion IMF agreement, recently approved by its executive board. The availability of IMF resources will help Pakistan avert a balance of payments crisis and danger of a currency collapse. Pakistan was on the edge of such a crisis as foreign exchange reserves plunged in recent months to a level approaching that of 2008, when the country faced a foreign exchange crunch.

The first tranche of the IMF loan came when reserves had depleted to less than $5 billion, barely enough to cover a month of imports and much short of Pakistan’s external financing requirements including foreign debt obligations.

The IMF programme however is part – not all – of the government’s larger economic strategy aimed at stabilising and reviving the economy to put it on a trajectory of higher growth and investment. The government set out elements of this strategy in its first budget, in several policy measures aimed at fiscal consolidation and in its ambitious power policy. The latter committed the government to reform and restructure the power sector to address Pakistan’s energy crisis, which has crippled growth and caused citizens untold hardship.

The government made an important beginning towards wide-ranging reforms by implementing five ‘prior actions’ to qualify for the IMF’s Extended Fund Facility. They included raising electricity tariffs as part of the new power policy, launching tax enforcement measures, fiscal adjustment of two percent of GDP in the ongoing year, securing approval for the IMF package from the Council of Common Interests, and monetary policy action to bolster foreign exchange reserves.

The IMF programme aims to support the government’s own strategy to stabilise the fragile macroeconomic situation as well as undertake structural reforms. Pakistan’s chronic financial imbalances are a consequence of its structural problems. The EFF arrangement is designed to help Pakistan address these underlying problems by reforms that can encourage investment and growth.

Equally important, the IMF agreement will open the way for other development partners to offer Pakistan policy and performance-based financial support, to deepen and operationalise reforms in key growth-oriented sectors, including energy, revenue mobilisation, public enterprises and social protection. Of the government’s estimated $12 billion outlay for its overall reform programme, over $6 billion will come from multilateral and bilateral partners including the World Bank and Asian Development Bank.

Although multilateral support is important, it is how resolutely the government implements its own economic agenda that will be more consequential. This will require a ‘whole of government’ approach where the greatest challenge will be to frame and enforce policy in a coherent and carefully sequenced way, and not fitfully or in silos, as in the past.

Protecting the poor and vulnerable during the stabilisation phase will be especially important. Economic policy will also have to be implemented in a fraught security environment, in which regional uncertainty fuelled by the looming transition in Afghanistan, will heighten risks that will need prudent management.

Tough challenges lie ahead in long familiar areas of policy. The mother of all fiscal problems remains the low tax-to-GDP ratio. The crisis in public finance will not be resolved without mobilising revenue, broadening the tax base, and ending the SRO regime, which is a sorry example of how concessions and exemptions granted to special interests have undermined equity and denuded the exchequer of billions in lost revenue. The government’s three-phase plan to identify, rationalise, and eliminate unnecessary SROs will be tested in its operation. The government will also have to move to end the differential income tax system, in which income is taxed differently (or not at all, in the case of agriculture) according to sources of income.

To seriously tackle revenue mobilisation, centre-province relations will have to be addressed afresh. Fiscal devolution under the last National Finance Commission award transferred more federally collected taxes to the provinces but imposed no obligation on them to raise resources from taxes in their jurisdiction. Unless the provincial tax effort is incentivised, the revenue crisis will worsen, confronting the centre with enduring fiscal deficits.

The government aims to double revenue in four years. This will need revamping of the tax regime, an end to exemptions, and strengthening the enforcement machinery. The government will have to articulate a revenue mobilisation strategy with a clear implementation plan and targets, and buy-in of provinces. Without this, badly needed resources cannot be directed to education, health and youth skills development. Also the deterioration in public service delivery cannot be reversed without new resource generation.

The most crucial of the structural reforms will be in the power sector. Sustained strategic direction will be needed to enforce the many facets of the government’s power policy. Tariff adjustment is important to reduce subsidies, which have cost the equivalent of $4 billion a year in recent years. By seeking to substantially reduce this, the government hopes this will contribute a significant share to fiscal adjustment in the ongoing fiscal year and address a major source of macroeconomic imbalances.

The government’s plan to close the demand-supply energy gap depends critically on being able to attract private sector investment. This will rest on the overall business environment, which in turn is contingent on both economic (incentives, less red tape) and non-economic (security) factors. This underlines the interlocking nature of challenges. To meet them the government will require a holistic approach in which actions in different policy areas are carefully aligned to reinforce each other.

Improving the business climate is pivotal to increasing the country’s investment-to-GDP ratio. This has fallen to under 11 from 14 percent in 2007. This must double to achieve sustained higher economic growth. Reviving domestic business confidence and attracting foreign direct investment will take time and effort. But their prospects will depend on how decisively the government pushes its reform agenda and improves the security situation. It also rests on how it reduces the bureaucratic footprint in the economy.

Reviving capital inflows that have dried up is necessary to reduce the pressure on the balance of payments and build reserves. As also is liberalising trade and boosting exports. At barely 10 percent of GDP, exports have stagnated and need to rise substantially if reserve levels are to acquire stability over time.

Another priority area is the restructuring of insolvent public sector enterprises that have long drained the exchequer and have served its employees rather than the nation’s citizens. Their management must be professionalised. But over time their privatisation will contribute significantly to transforming the business climate.

This is by no means a comprehensive menu of actions the government will need to take to advance its economic agenda. Fundamental to this effort is acknowledgement that Pakistan’s economic problems can no longer be fixed by a patchwork or Band-Aid approach. A sustainable economic recovery will require transformational change and the ability to stand up to entrenched interests – both in the bureaucracy and its own political constituency – that have long resisted change.

The critical choice for Pakistan and its leaders is this: having missed out on the globalisation wave, which swept the world in recent decades and catalysed the rise of powerful economies in the developing world, will the country now seek a place in these emerging markets or remain locked in a dysfunctional state, at the top of the league of low-income countries, but falling behind much of the world and failing to meet the expectations of its own people?

A government with a comfortable majority at home, and evincing renewed interest abroad, has a unique opportunity to lead Pakistan into a brighter economic future. With energy, commitment and resolve it can secure this future.

The writer is special adviser to the Jang Group/Geo and a former envoy to the US and the UK.Twitter: @LodhiMaleeha