Testing times

With both revenue collection and exports continuing to remain largely unresponsive to efforts being made on these two fronts since the advent of the PTI-led coalition government in August last year the chances of the current fiscal year ending with any significant reduction in economic challenges confronting the country are looking too dim.
If anything, these challenges are expected to become even graver because the conditionalities accompanying the IMF programme, negotiations for which seem to be in the final stages, are likely to slow down the economy considerably resulting in further adversely affecting the revenue collection and our exports, as a consequence, losing further their competitive edge in the world markets because of an anticipated steep rise in cost of money as the discount rate is expected to swell significantly in response to significant hikes anticipated in the domestic inflation rate. Stagflation in the immediate run cannot be ruled out, as a result.
The one-size-fit-all Fund conditionalities are based on the following non-negotiable 10 policy principles:
1. Fiscal policy discipline, with avoidance of large fiscal deficits relative to GDP;
2. Redirection of public spending from subsidies ("especially indiscriminate subsidies") toward broad-based provision of key pro-growth, pro-poor services like primary education, primary health care and infrastructure investment;
3. Tax reform, broadening the tax base and adopting moderate marginal tax rates;
4. Interest rates that are market-determined and positive (but moderate) in real terms;
5. Competitive exchange rates;
6. Trade liberalisation: liberalisation of imports, with particular emphasis on elimination of quantitative restrictions (licensing, etc.); any trade protection to be provided by low and relatively uniform tariffs;
7. Liberalisation of inward foreign direct investment;
8. Privatisation of state enterprises;
9. Deregulation: abolition of regulations that impede market entry or restrict competition, except for those justified on safety, environmental and consumer protection grounds, and prudential oversight of financial institutions;
10. Legal security for property rights.
The finance team led by Asad Umar has been completely replaced by a new one led by Dr Hafeez Shaikh. This has happened, it is assumed, during the last phase of negotiations with the IMF for a crucial, make or break programme amounting to $6-8 billion, and certainly at the fag-end of budget-making process for the next fiscal year (2019-20).
One only hopes that the timing of this abrupt change at the top would not drastically impact on next fiscal year's income and expenditure estimates. Likewise, the final Fund programme too would, hopefully, remain immune to any adverse consequences of the late hour change in the negotiating team.
Both the next budget and the success of the Fund programme would crucially depend on the new finance team's ability to broaden the tax base, a conditionality the country has consistently failed to fulfil. And looking at the team made up of two highly qualified technocrats with IMF background - Hafeez Shaikh, adviser to the PM on finance and Reza Baqir, Governor SBP - one would certainly feel reassured. More so, because the IMF background of the Advisor and the Governor would hopefully add extra technical depth to our team negotiating with the Fund which one is certain would more than neutralize any adverse impact of the timing of the change in the team's leadership.
The Fund appears rather suitably serious about its conditionality pertaining to the exchange rate and at the same it would want, as per one of its non-negotiable conditionalities, for Pakistan to continue with a liberal import policy. This is going to be too tough a call for our new official economic managers to deal with. A possible way out of the testing situation could be by rationalising tariffs - high for finished goods and almost zero for raw materials and intermediaries. Of course, in the immediate run this would cause a significant decline in the collection at the customs. But cheaper availability of raw materials and intermediaries could serve as an incentive for our entrepreneurs and foreign investors to set up fabrication units for goods whose import would become prohibitive due to high tariffs, opening up in the process new avenues for additional revenues, especially under the sales tax head.
Another challenge that our official economic managers would be facing would pertain to the conditionality regarding broadening of the tax base without causing any major disruption in the economic activity which one fears would, in any case, take place if economically undesirable tax exemptions were withdrawn and traders and manufacturers were subjected to stricter application of tax laws.
This has happened in the past and is not likely to be not repeated again in case the rich in the country are made to share the hardships of reforms the nation is undergoing currently and a huge burden of which has already been shared by the not-so-rich as well as those living below the poverty line following massive increases in the prices of essentials, like gas and electricity including a hefty increase in fuel prices.
Big business seems to have already taken over the political decision making process in the country. Lobbyists of powerful vested interested like the automobile industry, the real estate racket, the sugar mafia, the chemical conmen, the engineering elite, etc., are said to have already forced the political government to concede a number of fiscal and monetary concessions.
This perhaps is going to be the biggest test the new finance team would be facing once a Fund programme is signed and sealed. Both the PM's adviser on finance and the Governor of the SBP being formerly of the IMF decidedly belong to the Milton Friedman's school of economic thought, therefore, they are expected to bend backwards to facilitate the private sector to operate in an environment of free market economy without any let or hindrance. But the biggest hindrance the two would be facing in this particular task would be the very private sector they would like to facilitate and promote because our private sector considers tax evasion to be the foundational underpinning of free market economy. Therefore, it believes, the Fund's conditionality regarding broadening of tax base does not apply to its members.
Last month, PM Khan ordered the FBR to flex its muscles against big tax evaders and make them cough up nearly Rs200 billion in the next four months. With every passing month, the FBR's tax shortfall is widening.
The government has set the budget deficit target for the current fiscal year at 5.1% of gross domestic product (GDP). But in the first half the deficit widened to 2.7% of GDP or Rs1.03 trillion due to a steep shortfall in tax revenues and higher expenditure on debt servicing and defence needs. The FBR has so far issued more than 6,500 tax notices and recovered nearly Rs1.4 billion in the current fiscal year from these people.
The political government, meanwhile, is said to have included media persons, sportsmen and real estate tycoons in its hunt list of top tax evaders amid increasing pressure on the Federal Board of Revenue (FBR) to give quick results to address one of the biggest issues of Pakistan's economy - the yawning budget deficit.
It has been decided to pick top 100 cases from every Regional Tax Office (RTO) and Large Taxpayers Unit (LTU), which will expand the final list to 2,400. These 2,400 people are politicians, celebrities, sportsmen, media persons and real estate tycoons, according to the FBR.
The FBR also has already directed its field formations that a sizeable number of parliamentarians should also be selected for sending tax notices on the basis of income declared in their tax returns for tax year 2017.
Top 10 parliamentarians in terms of tax contribution paid Rs322 million in taxes, which was equal to 60% of total taxes paid by all members of parliament in tax year 2017. The fifth tax directory of parliamentarians showed that lawmakers, including members of the federal cabinet, paid Rs535 million in taxes during tax year 2017, up Rs139 million or 35%.