IMF prior conditions

EDITORIAL: No definite date has been set for the International Monetary Fund (IMF) Board approval of the staff-level agreement on second to fifth reviews under the 6 billion dollar Extended Fund Facility (EFF) programme, a prerequisite for the release of the 500 million dollars. This has prompted a comparison to a similar situation in February of 2020 which gave rise to intense speculation that the date would be set as and when challenging ‘prior’ conditions have been implemented. The issue became redundant after the onslaught of Covid-19 a month later in March. Pakistan has yet to implement key reforms to correct massive deficiencies attributed to corruption/inefficiency and continuation of flawed policies particularly in two areas - the energy sector and the tax system. With each passing year, the extent of the problem has exacerbated - the circular debt is at present 2.3 trillion rupees against the 1.2 trillion rupees inherited by the incumbent government and the tax to Gross Domestic Product ratio continues to hover at lower than 10 percent and yet all administrations, including the incumbent, have shied away from reforms that have become ever more compelling and as such are ever more urgently required with the passage of time. This may well account for the IMF insisting on upfront prior conditions during its ongoing programme.

What is significant in 2021 as opposed to May 2019 when the staff-level agreement on the EFF was reached are two mitigating factors that may make the implementation of prior conditions even more of a challenge than previously. First and foremost, the PTI administration has completed nearly two and half years and its honeymoon period is clearly over. Inflation first due to the contraction of the economy pre-Covid-19 July-February 2019 (as a consequence of severe contractionary monetary and fiscal policies and rising utility tariffs agreed with the IMF) and post-Covid-19 due to limited relaxation in policies in contrast to other countries (for example, a discount rate of 7 percent with an unrealistic tax target of 4.9 trillion rupees) has neither contained inflation nor encouraged a wage rise commensurate to the rate of inflation, thereby exponentially increasing the feel bad factor of inflation. And secondly, even though the opposition’s jalsas appear to be attracting their supporters and not the general public reeling under eroding income yet there have been spontaneous protests that compelled the government to raise wages of its own staff and stayed its hand in raising taxes as was witnessed in the reduction in petroleum levy to absorb the rise in the international oil prices for the remaining period of the current month. At the same time the conflict between the government and the opposition has reached a height whereby many bills remain stalled in committees and this delay would delay the IMF Board approval which in turn would make government borrowing very expensive.

The negotiating team of the incumbent government agreed with the IMF in 2019 to amend the Nepra Act which was to be “submitted to parliament by end-December 2019 (structural benchmark) with a view to (i) ensuring full automaticity of the quarterly tariff adjustments; and (ii) eliminating the gap between the regular annual tariff determination by the regulator and the notification by the government…the authorities will prepare by end-September 2019 (structural benchmark) a comprehensive strategy to address circular debt, with quarterly targets for the reduction of arrears through improvements in collection, efficiency gains, and enhanced governance.” The Standing Committee on Power is opposing the Nepra amendment act that would give powers to the government to impose a surcharge as and when it deems appropriate.

With respect to tax reforms as per the July 2019 agreement, the government has failed to widen the tax net and though the number of filers has risen yet a major percentage consist of those who were not eligible to file their returns but did so to take advantage of lower withholding taxes on filers imposed in the sales tax mode. The government has failed to “transform the GST into a broad-based VAT and making the Personal Income Tax (PIT) fairer and more progressive by raising the upper-end of the PIT structure and consider eliminating PIT tax credits and deductions for the higher income brackets…other tax policy measures include: (i) further strengthening taxation on real estate and on agricultural turnover or income by provinces; (ii) ensuring equivalent taxation of all sources of income; and (iii) eliminating distortionary withholding taxes.” While the government’s economic team is blaming failure to implement these conditions on the pandemic yet it is significant that it missed these structural benchmarks (other than those agreed with the State Bank of Pakistan) in the nine months pre-Covid-19.

The fruits of the IMF programme notably containment of the current account deficit have by now begun to erode, a possibility that this newspaper warned against, with Pakistan posting a deficit for the second consecutive month notwithstanding the massive rise in remittances that have defied multilateral and SBP earlier projections. And foreign direct investment is down by a whopping 27 percent, disturbingly reflecting a decline in project implementation under the China Pakistan Economic Corridor.

There are those who argue that the government should have delayed going back on the IMF programme for another four months to take advantage of a spur in domestic output due to the expansionary policies by the SBP and the Ministry of Finance; however, the July 2019 IMF documents perhaps best explain why the need to go back on the programme was assuming urgency: “external debt risks remain high, but under the EFF, external debt is estimated to remain sustainable given a sustained fall in external debt and strong commitments from bilateral official lenders.”

Copyright Business Recorder, 2021