What would an economist recommend to a heavily indebted country? Go on an austerity drive that seeks to minimize reduction in development expenditure, an expenditure item with the capacity to increase output, create jobs and be politically less costly, maximize a reduction in current expenditure that relatively speaking fuels inflation, and raises tax revenue.
How much is proposed to be slashed from where depends on the extent of the debt (external as well as internal), which tax proposals are acceptable to the parliament and of course the economic policies favoured by the government in power.
It is relevant to look at the Eurozone debt figures that have rattled the global economy to such an extent that dire growth prognosis are being made for years to come. Fourteen out of the 27 countries in the European Union had a public debt exceeding 60% of their GDP at the end of 2010. A report by Eurostat provides further details: the ratio of government debt to Gross Domestic Product (GDP) across all 27 member states increased from 74.4% in 2009 to 80.0% in 2010. For the 17 Eurozone countries, the debt was higher, increasing from 79% in 2009 to 85% in 2011 and set to rise to 88.7 percent in 2012. As expected the major culprits were Greece with 142.8% government debt to GDP ratio, followed by Italy (119.0%), Belgium (96.8%), Ireland (96.2%), Portugal (93.0%), Germany (83.2%), France (81.7%), Hungary (80.2%) and the United Kingdom (80.0%).
According to the Economic Survey 2010-11 Pakistan's public debt (inclusive of external debt and liabilities as well as domestic debt) as a percentage of GDP decreased to 55.5 percent by end-March 2011 after hovering at around 60 percent of the GDP for two years. Thus at first glance Pakistan's economy is not as indebted as the Eurozone countries. In addition, Pakistan's economy's ability to absorb more debt relative to the Eurozone countries is greater for one simple reason: the parallel black economy reflecting economic activity that is not quantifiable allows the government to contract more debt before its impact begins to be felt at the level of the macro economy.
Economists at first glance would challenge the claim that we have not reached crisis point. The budget deficit is rising at a fast pace with the government forecasting a deficit under 5 percent and the International Monetary Fund (IMF) in its recently completed Article IV consultations forecasting a deficit of 6.7 percent. The government's assumptions in this respect appear to be flawed as it continues to insist that internal and external inflows as noted in the budget would be realised.
It may be recalled that Dr Hafeez Sheikh's 2011-12 budget envisaged a fiscal deficit of 4.2 percent and no one, not even Dr Sheikh would stand by this statistic eight months after it was first made. The reason, for want of a better word, is because the figure was simply unrealistic. Dr Sheikh would probably have us believe that the unrealism crept in for reasons that post-date his budget speech. However, this assertion does not pass the test of credibility for four main reasons: (i) the 2011-12 budget anticipated 117.8 billion rupees from external sources under programme lending or budgetary support. In the wake of the cessation of IMFs Stand-By Arrangement (SBA) and its refusal to extend a Letter of Comfort, programme lending was simply Dr Sheikh's pipedream and given his experience in and with multilaterals he has to have known this for at least six months when the IMF suspended the SBA; (ii) tax revenue shortfall is now a routine annual event announced by end June - weeks after the next year's budget has been announced. Thus the budget revenue deficit targets for an outgoing year are well below what is realised which understates last year's deficit and therefore the forthcoming year's as well, for example last year the total shortfall relative to budgetary estimates was a whopping 99 billion rupees; (iii) the money expected from the auction of 3G is unlikely in the current fiscal year even if the government succeeds in auctioning it off by May; and (iv) the government has been unable to check the rise in current expenditure, attributable not to, as is generally thought rising costs associated with the war on terror but to a rise in general administration expenses which includes the Prime Minister's largess in doubling salaries of bureaucrats and military personnel as well as a massive rise in subsidies.
The massive slashing of development expenditure (by 200 billion rupees last year) has been the only equalizer in terms of scaling down expenditure as current expenditure rises unchecked and revenue does not meet budgetary expectations. And if one adds the escalating cost to the budget of rising domestic borrowing and payment of interest on foreign debt, current expenditure will continue to witness a massive rise relative to budgetary estimates.
The foregoing has been the trend when there were no general elections. The 2012-13 budget would be different, as it is to be an election year. Senior members of the PPP leadership have already publicly stated that there will be no new taxes and one would assume that if politically costly power and tax reforms were not implemented during the past four non-election years they are not likely to be in an election year. In short the inter-circular debt would remain, which would continue to impact on power shortages and tax exemptions on the rich and influential would continue.
The 2011-12 budget is also unrealistic from the people's perspective with respect to two indicators namely GDP growth estimates and inflation. Real GDP growth, Dr Sheikh's budget documents note would rise by 4.2 percent in 2011-12, a claim he downgraded by only 0.2 percentage points recently, a rate that is simply not likely given the government's heavy reliance on borrowing internally that is crowding out private sector borrowing and the continuing energy crisis. The IMF has forecast a growth rate of 3.4 percent. An inflation rate of 12 percent is also optimistic if, as is expected, fiscal deficit rises to 6.7 percent - a rise backed by massive internal borrowing.
The solution is known to the economic team as well as the rest of the cabinet: reduction in current expenditure, desisting from slashing development expenditure or borrowing domestically as GDP growth would be impacted, ending tax exemptions and implementing power sector reforms. This is not going to be painless and perhaps the Prime Minister mouthing off threats to anti-democratic forces would heed what happened in the democratically elected governments of Greece and Italy which were then replaced by technocrats.
Pakistan's experience with technocrat governments in general and appointing of a technocrat Finance Minister in particular has not been very positive. The ability of our technocrat Finance Ministers' to convince cabinet colleagues to support reforms has been appalling during times of democracy and by convincing a more compliant cabinet and parliament during dictatorships has been ineffective as the King's party created to support the dictator demands a status quo in terms of nepotism and corruption (past and present). Disturbingly Dr Hafeez Sheikh's performance reflects the norm rather than the atypical.