Exit of SBP governor

Shahid H. Kardar, during his short tenure as Governor of State Bank of Pakistan (SBP), was highly critical of wasteful expenditure. He was asking the government to devise a sound strategy as well as short-term and long-term plans to counter the menace of growing debt burden and abide by the Fiscal Responsibility and Debt Limitation Act of 2005.
In the current year, when the cost of servicing the domestic debt jumped by Rs 32 billion, beyond the target of Rs 621.6 billion, the State Bank, under the leadership of Kardar showed concern and without mincing any words observed: "The maturity profile of domestic debt reveals that the government has to rollover the entire stock of Rs 2.9 trillion of short-term debt at least once a year. Any surge in credit demand from other sectors of the economy could elevate rollover risk and could also expose the government to interest rate risk." The stance taken by Kardar certainly irked the rulers.
Our total debt - both foreign and domestic - by mid 2011 has crossed the dangerous mark of Rs 12 trillion. The government is continuously borrowing heavily to meet its burgeoning budgetary deficit. According to a Press report, "about 54% of the total rupee-denominated debt is now short-term, up from 34% in June 2008. The shorter maturity of the debt means that the government needs to constantly refinance the debt and is exposed to sudden shifts in interest rates, which increases the cost of servicing the national debt".
According to the State Bank of Pakistan, domestic debt increased to Rs 5.2 trillion in 2011 from Rs 4.958 trillion in 2010, from Rs 4.018 trillion in 2009. The external debt of the government increased to Rs 5.1 trillion in 2011 from Rs 4.3 trillion in 2010, from Rs 3.656 trillion in 2009. The government paid $7.8 billion in foreign debt servicing during the first nine months of fiscal year 2010-11 (compared to $5.8 billion during all of last year), of which $6.2 billion was repayment of the principal amount (the rest being interest payments). The federal government paid a further Rs 457 billion ($5.4 billion) in just interest payments on the local currency debt. Of the Rs 525 billion in new lending in the banking sector, over 65% went towards the government, leaving relatively little room for private businesses to borrow, preventing them from expanding their business lines
Today's Pakistan represents a State where a trio of corrupt civil-military bureaucrats, crooked politicians and profit-hungry businessmen is very affluent, but the Government is on the brink of bankruptcy. This state of affairs is the direct outcome of the state's policies allowing a free hand to forces of loot, corruption and terrorism. No other State in the world has undergone such a horrible experience. Clearly, Pakistani rulers have destroyed the State through corruption and incompetence. Unfortunately, people like Shahid Kardar have to quit whereas many so-called "foreign-trained" Pakistani economists (sic) have all along been vociferously defending and serving unscrupulous political masters, instead of advising the concerned quarters to enforce financial discipline and better financial management.
The best example is that of Debt Policy Co-ordination Office, established under the Fiscal Responsibility and Debt Limitation Act of 2005, which is in an utter mess. Under the Fiscal Responsibility and Debt Limitation Act of 2005, it was the duty of the Debt Policy Office to ensure effective management of debt control by formulating a strategy for reducing it. It is reported in the Press on 18 July 2011 that "far from formulating such a policy, the office has allowed the public debt to grow by 88% in three years and severely shortened the average maturity of the debt". The Debt Office did diametrically opposite for what it was established!
According to a press report, "Finance ministry spokesman Rana Assad Amim admitted that overspending on domestic debt servicing and rolling over Rs 1.7 trillion in debt (which the government had to do last year) did have a negative impact on the budget. Finance ministry officials, the press report says, are hesitant to speak on the record about the matter but admit that the major banks colluded to force the government to either borrow at short-term maturities or pay higher interest rates. Yet many experts believe that, had the government diversified its borrowing sources as it is required to do under the Debt Limitation Act, it would not have been able to have effectively been blackmailed by the bond market. Even those who have been part of the debt policy office management have criticised its current administration.
"The debt office delayed the scheduled auction of Pakistan Investment Bonds, a source of long term debt, and that increased the short-term debt," said Dr Ashfaque Hasan, the former Director General of the debt policy office. The Press reports claim that the current Director General of the office, an employee of the National Bank of Pakistan, on secondment to the finance ministry, lacks proper qualification that is a PhD in Economics. The government, it is alleged, tried to amend the criterion for hiring the head of the debt policy office, but failed to do so "facing strong resistance from the economic affairs division within the finance ministry and the State Bank of Pakistan."
In 2010, the State Bank proposed amendments in the Fiscal Responsibility and Debt Limitation Act 2005 to abolish automatic monetisation of fiscal deficit. It emphasised that legislation should be made putting strict limits on central bank borrowings and launching a programme to phase out their outstanding stock. But as usual, this advice fell on deaf ears and the government kept on borrowing against the wishes of the governor and his team.
Kardar, while emphasising the need for fiscal sustainability - a key to macroeconomic stability - suggested practical ways for increasing tax-to-GDP ratio, containment in non-productive expenditure and rationalisation of subsidies. Had the government implemented even half of the plans given by Kardar, there would have been betterment in every area of the economy. The ex-Governor explained to the government the impediments in way of effective monetary management and presented solutions to overcome the same. He expressed concerns that unlike most countries in the world, there was no prescribed limit on government borrowing from the central bank.
The State Bank clearly told the government that the unrestricted access to central bank borrowing had created numerous problems for the effectiveness of monetary policy. Apart from causing inflation, it complicated liquidity management, diluted the monetary policy stance, put pressure on foreign exchange reserves, and affected the private sector credit growth. It also created a sense of complacency on the part of the fiscal authority that rather than adopting prudent fiscal policy, tended to rely on the easily available funds.
Kardar has been constantly asking for enhancing monetary and fiscal co-ordination to achieve mutual and desirable macroeconomic goals. This included sharing of data and information and regular interaction at the highest level to ensure consistency between monetary and fiscal policies. The role of the exchange rate in the context of monetary management was not very well understood by the man at the top. There was a general perception in government quarters that the State Bank was bound to keep the exchange rate at some predefined level, which was not the case. SBP reiterated that for an open economy, it was not feasible to pursue a controlled exchange rate policy along with an independent monetary policy, facilitating unrestricted flow of capital across the border.
The government refused to accept that subsidised credit facilities - for instance Export Finance Scheme (EFS) and Long-term Financing Facility (LTFF) - complicated monetary management and in general promoted economic inefficiency. Unlike many developed and developing countries, data on key macroeconomic variables, such as real GDP, is not available on an appropriate frequency in Pakistan. Unquestionable presence and huge size of the 'informal' sector considerably weakens the effectiveness of monetary policy. There is over-reliance on the banking system to channel savings to the eventual investors. A reflection of this is the high banking spread, the SBP highlighted time and again. But all its efforts to implement corrective and curative measures were frustrated by the government.
The monetary policy plays a central role in reducing inflation and keeping it at moderate or low levels, broadly termed as price stability. Overall monetary policy strategy is a crucial element in ensuring financial stability. An expansionary monetary policy can stimulate economic activity only in the short run, that is, when actual output is much below potential and inflation is low. However, it cannot increase the country's capacity to produce goods and services.
One of the major weaknesses of governance in Pakistan is unchecked wasteful spending and unwillingness to collect taxes from the rich and mighty. The worsening plight of the poor is not due to scarcity of resources - as propagated by the rulers to shift the blame on others - but is due to wasteful expenses on the part of the rulers and their mediocre bureaucracy. Wasteful spending out of the taxes collected from the poor and the unwillingness to harness the real potential of Rs 8 trillion by taxing the rich, is playing havoc with the economy as well as the socio-economic fabric of society. Behind the present chaotic socio-economic and political situation in Pakistan, amongst other factors, is an ever widening gulf between the rich and the poor. It is shocking that with every passing day, more and more people are being pushed below the poverty line - their total number is now not less that 65 million in a country, where rulers unashamedly waste billions of rupees on their personal comfort and in the name of security.
For the financial year 2011-12, a cursory look at the Annual Budget Statement reveals a disturbing story. Analysis of two sizeable volumes, prepared and published by Finance Division, Ministry of Finance, commonly called the "Pink Book", shows how public money is wasted on unproductive, unnecessary and monstrous federal government offices when millions of people are homeless and starving. It is indicative of priorities of our rulers. They are spending lavishly by borrowing more and more money. The figure of foreign debt is going to be US $75 billion in 2015 and that of domestic debt Rs 8 trillion. Both external and internal debts are increasing at a frightening rate. The way we are managing our resources (not exploiting them or wasting mercilessly those already available) is criminal and is leading us to self-annihilation.
Fiscal deficit of over Rs one trillion is expected during the current fiscal year. This testifies to bankruptcy of our political leadership and economic managers, who keep on relying on an incompetent and corrupt bureaucracy. They always take the first flight to Washington when things go out of hand. The policy of appeasement towards tax evaders, money launderers and plunderers of national wealth is showing its impact in all spheres: the political culture of changing loyalties continues, the nation is in high despair and all sectors of the economy are showing horrible indicators. In this bleak scenario, neither our political leaders nor the technocrats dominating the Finance Ministry have definitive plans for coming out of these crises.
We cannot come out of debt-enslavement, which is the main cause of our subjugation, unless we first become an economically self-reliant nation. For this, the President, Prime Minister, ministers, parliamentarians, heads of political parties and high-ranking government officials would have to take the first step by living at very modest levels, start paying their taxes, repatriate all their foreign assets and then mobilise the masses for a nation-wide struggle to take the great economic leap forwards.
(The writers, tax lawyers, are Adjunct Professors at Lahore University of Management Sciences.)